Page 1

TCB Content Book April 2014


Monthly Research Book Research Released April 1-30, 2014 This Month’s Major Reports CEO Succession Practices 2014 Edition……………………………………………………………………………………………………6 Melissa Aguilar, Research, Corporate Leadership Jason D. Schloetzer, Accounting Professor, McDonough School of Business, Georgetown University Matteo Tonello, Vice President & Corporate Leadership Practice Lead This report shows the findings and conclusions of the Corporate Leadership Practice of the Conference Board for 2014. CEO Challenge 2014 ASEAN Edition……………………………………………………………………………………………………….78 Derrick Kon, Director, Associate Services Charles Mitchell, Executive Director, Knowledge Content & Quality Rebecca L. Ray, Executive Vice President, Knowledge Organization & Human Capital Lead Bart van Ark, Executive Vice President, Chief Economist & Chief Strategy Officer Human Capital is the number one challenge for CEOs in 2014. Big data analytics is the number one hot-button issue in 2014 in ASEAN. The challenge that ASEAN CEOs face is leveraging people to build a customer-centric, performance based culture. CEO Challenge 2014 Latin America Edition………………………………………………………………………………………….120 Charles Mitchell, Executive Director, Knowledge Content & Quality Rebecca Ray, Executive Vice President, Knowledge Organization & Human Capital Lead Bart van Ark, Executive Vice President, Chief Economist & Chief Strategy Officer Human capital is the number one challenge for CEOs in 2014. In Latin America, labor relations is the main focus for CEOs. The challenge for CEOs in Latin America is gaining efficiencies and sustainable growth by focusing on excellence in execution. CEO Challenges in the Gulf Region Gulf Cooperation Council Edition………………………………………………….160 Charles Mitchell, Executive Director, Knowledge Content & Quality Bart van Ark, PhD, Executive Vice President, Chief Economic, & Chief Strategy Officer Dalal Al-Jaser, Economic Analyst, Gulf Investment Corporation Businesses have armed themselves to mitigate and manage risks in the short and medium term by streamlining their organizations, building their human capital potential, and trying to create value by improving and diversifying existing products and services and paying more attention to their increasingly sophisticated and restless customer base. The potential mix of bad policy and high risk may create the biggest obstacle to reaping the fruits of strong business performance.

China Center for Economics and Business Assessing Local Debt Risks and Opportunities – Regional Debt and Real Estate Dynamics Chart of the Week…………………………………………………………………………………………………………………………………………184 Andrew Polk, Economist This chart shows China’s debt buildup over the past several years. Quarter 1: Real Estate Drags on Headline Growth Data Flash…….………………………………………………………187 The Conference Board China Center for Economics and Business This report shows a brief interpretive summary of China’s official monthly economic data release. April 2014 Page i


Monthly Research Book Research Released April 1-30, 2014

RMB Band-Widening: Sort-Term Volatility, Long-Term Vulnerability Quick Note………………………………192 Andrew Polk, Economist RMB band-widening will add to exchange rate volatility but do little to change the “soft fall” macroeconomic picture currently unfolding. Long term may trigger an economic correction. The RMB path is less linear. Don’t Hold Your Breath for the Emerging Market Sell Off Quick Note……………………………………………….198 Andrew Polk, Economist The Federal Reserve’s ongoing exit from extraordinary monetary policy is unlikely to cause widespread capital flight from emerging markets as some investors fear.

Corporate Leadership CEO Dismissals in the S&P 500 Chart of the Week………………………………………………………………………………204 Matteo Tonello, Vice President & Corporate Leadership Practice Lead CEO performance is particular acute during the first five years of tenure, and even more so if the company is faring poorly. The influence of company financial performance on CEO succession events is generally higher among smaller companies. CEO Inside Promotions Versus Outside Hires Chart of the Week………………………………………………………..205 Matteo Tonello, Vice President & Corporate Leadership Practice Lead Better-performing companies are more likely to appoint a seasoned executive as a CEO. The market for lateral hires of CEOs has expanded in the last four decades. Transitioning to a New CEO and Board Leadership Chart of the Week……………………………………………….206 Matteo Tonello, Vice President & Corporate Leadership Practice Lead Some CEOS stay involved in the company after stepping down, other boards use the succession as an opportunity to adapt to evolving board leadership practices and trigger separation of CEO and chairman duties. The executive suite continues to be rigidly compartmentalized. Mandatory CEO Retirement Policy Chart of the Week..………………………………………………………………………207 Matteo Tonello, Vice President & Corporate Leadership Practice Lead Policies on CEO retirement offer an additional safeguard to existing governance practices. Smaller companies may be unable to afford the organizational costs resulting from a CEO retirement policy. Corporate Governance Practices in US Initial Public Offerings Director Notes.…………………………………..208 Joseph A. Hall, Member, Davis Polk’s corporate department Richard J. Sandler, Cohead, Davis Polk’s global corporate governance group Despite pressure on US public companies to adopt certain governance practices, a review of the largest initial public offerings shows that newly public companies continue to exercise a great deal of latitude in designing their governance structures, at least at the time of their IPO How Do Financial Markets Respond to Corporate Sustainability Disclosure? Director Notes...............217 Thomas P. Lyon, Dow Chemical Professor, University of Michigan April 2014 Page ii


Monthly Research Book Research Released April 1-30, 2014 There has been growth in the number of studies exactly how environmental news affect corporate financial performance. When firms do not receive a director increase in share price from their environmental investments, green efforts can still serve as a risk management tool, cushioning the firm against negative investor reaction. Data Collection and Analysis in Philanthropy Giving Thoughts…………………………………………………………..225 Gina Anderson, Philanthropy Fellow, Centre for Social Impact, University of New South Wales Philanthropists today are trying to make large-scale change by identifying and addressing the causes of problems rather than reacting to their effects. This report looks at the value of data collection and analysis for philanthropic foundations and philanthropists, and it examines how that information could be used for more purposeful grant making.

Economics Economic Watch: Emerging Markets View Emerging Markets Face a Bumpy Recovery Road Ahead, and Impact on Global Economy in 2014 could be More Significant than Expected…………………232 Jing Sima-Friedman, Economist Andrew Polk, Economist TCB projection of 3.5% global GDP growth in 2014 is facing some downward adjustment risk in case energy markets growth performance continues to weaken. Economics Watch: Emerging Markets View Emerging Markets are Slowing More than Expected So Far in 2014, and Downward Risks to Global Economy are Increasing………………………………………………241 Jing Sima-Friedman, Economist Abdul Azeez Erumban, Senior Economist Financial conditions continue to tighten and manufacturing remains sluggish, resulting in downward pressure for energy markets. Political instability is also a factor. Economics Watch: European View While Europe’s Short-Term Outlook is Improving, Risks to a Sustained Recovery Persist………………………………………………………………………………………………………………….249 Bert Coljin, Senior Economist Survey indicators in the Euro Area are all pointed to continued growth, signaling improvements in the short-term outlook. Economics Watch: United States View Economy if Thawing Out…..……………………………………………………254 Ken Goldstein, Economist US Economic growth is posed for some solid gains and the housing and labor markets are keys to this improvement. Why CEOs Need to Care about Trust in Business ExecutiveAction Series.…………………………………………..260 Donna Dabney, Executive Director, The Conference Board Governance Center CEOs need to build trust with the public by taking action to alter the perception of a rigged system and CEOs taking initiatives. From a Buyer’s Market to a Seller’s Market Declining Unemployment and Evolving Labor Shortages in the United States, Executive Action Series……..……………………………………………………………….267 Gad Levanon, Director, Macroeconomic & Labor Markets April 2014 Page iii


Monthly Research Book Research Released April 1-30, 2014 Ben Cheng, Associate Economist Despite the economic recovery in the US, demographic trends and the imminent departure from the workforce of the baby boom generation point to the emergence of a “seller’s market” when it comes to skilled talent. International Indexes of Consumer Prices 2013………………………………………………………………………………….277 Elizabeth Crofoot, Senior Economist Eric Hayek, Research Analyst Michael Paterra, Research Assistant Average annual inflation for 2013 slowed in 13 of the 16 economies compared.

Human Capital BoardAsia A Newsletter for Members of The Conference Board in Asia………………………………………………288 The Conference Board Major news covered in this issue includes details of the launch of The Conference Board CEO Challenge Report® and an overview of the Future India Leadership Un-conference. The 2014 Talent Management Strategies Conference Unlock Talent Potential to Drive Business Success, Conference Keynotes…………………………………………………………………………………………………………….309 Timothy Dennison, Managing Editor Peter Drubin, Creative Director & Assistant Director, Publishing Rita Jones, Production Editor Joanne Loce, Program Director Jenna Moore, Meeting Administrator Sheri Rothman, Senior Writer Hannah Sohn, Manager, New Engagement Products Most employees are promotable, especially those with learning agility and have mastered a skill or subject matter. Talent management should be based in company culture, and we should not be afraid of analytics and big data.

April 2014 Page iv


CEO Succession Practices 2014 Edition

INCLUDING AN ANALYSIS OF S&P 500 CEO TURNOVER EVENTS


The Conference Board creates and disseminates knowledge about management and the marketplace to help businesses strengthen their performance and better serve society. Working as a global, independent membership organization in the public interest, we conduct research, convene conferences, make forecasts, assess trends, publish information and analysis, and bring executives together to learn from one another. The Conference Board is a not-for-profit organization and holds 501(c)(3) tax-exempt status in the USA. www.conferenceboard.org

This report was published thanks to a research grant by

Heidrick & Struggles is the premier provider of seniorlevel executive search, culture shaping and leadership consulting services. For 60 years, the firm has served the leadership needs of organizations globally. Through integrated solutions, Heidrick & Struggles leverages deep industry expertise and unparalleled global presence to help our clients deliver the next generation of leaders and build the best leadership teams in the world. www.heidrick.com


CEO Succession Practices 2014 EDITION RESEARCH REPORT R-1544-14-RR

by Jason D. Schloetzer, Matteo Tonello, and Melissa Aguilar

Contents 5 Using This Report 7 Key Findings 11 Part I: CEO Succession Trends (2000–2013) 12

CEO Succession Rate

13 13 14

By company performance By departing CEO age By industry

15

Characteristics of Departing CEOs

15 Age 16 Tenure 16 Disciplinary and nondisciplinary departures

17

Characteristics of Incoming CEOs

17 Age 17 Inside promotions and outside hires 18 Tenure-in-company of insider appointments 18 Professional qualifications and skills 19 Joint election as board chairman

20 Part II: CEO Succession Practices (2013) 21

Board Practices in CEO Succession Planning

Responsibility for CEO performance review Frequency of CEO performance review Responsibility for CEO succession planning Frequency of CEO succession plan review CEO auditioning practice Board retention of departing CEO Board access to employees without CEO approval Mandatory CEO retirement policy Succession planning disclosure

22 23 24 25 26 26 27 28 29

30

Communication Practices in CEO Succession

Responsibility for succession announcement Succession effective date Stated reason for CEO departure Stated role of the board in CEO succession planning Director and management changes in conjunction with CEO succession

32 32 33 34 35

36 Part III: Notable Cases of CEO Succession (2013)

37 38 40 42 43 45 47 49

Analog Devices, Inc.: A case of sudden death E*TRADE Financial Corp.: A case of leadership reorganization and an interim appointment Electronic Arts Inc.: A case of insider promotion EOG Resources, Inc.: A case of early announcement and CEO apprenticeship General Motors Company: A case of insider promotion HCP, Inc.: A case of dismissal and outside appointment J.C. Penney Company, Inc.: A case of departure amid poor performance PetSmart, Inc.: A case of planned retirement and early announcement


50 52 54 55

The Procter & Gamble Company: A case of sudden retirement Time Warner Cable Inc.: A case of CEO apprenticeship Wal-Mart Stores, Inc.: A case of insider promotion WellPoint, Inc.: A case of an interim appointment and an outside appointment

57 Part IV: Shareholder Activism on CEO Succession Planning (2012–2013) 60 62

Google Inc. Sirius XM Holdings, Inc.

63 Appendix: The Conference Board Roadmap to CEO Succession Planning

69

70

About the Authors/Acknowledgments Related Resources from The Conference Board

Index of Tables and Charts TABLES 12

Table 1 CEO succession rates by the numbers (2000–2013)

14

Table 2 Number of successions in each industry (2000–2013)

30

Table 3 CEO succession cases in 2013 used for press release analysis

58

Table 4 Succession planning shareholder proposals (2012–2013)

CHARTS 12

Chart 1 CEO succession rates (2000–2013)

13

Chart 2 CEO succession rate by company performance (2000–2013)

13

Chart 3 CEO succession rate by departing CEO age (2000–2013)

14

Chart 4 CEO succession rate by industry (2013)

14

Chart 5 CEO succession concentration by industry (2013)

15

Chart 6 Departing CEO age (2000–2013)

15

Chart 7 Departing CEO age by industry (2000–2013)

16

Chart 8 Departing CEO tenure (2000–2013)

16

Chart 9 Disciplinary departures (2000–2013)

16

Chart 10 Disciplinary departures by industry (2013)

17

Chart 11 Incoming CEO age (2000–2013)

17

Chart 12 Incoming CEO age by industry (2000–2013)

17

Chart 13 Inside promotions and outside hires (2011–2013)

18

Chart 14 Average tenure-in-company of insiders (2000–2013)

18

Chart 15 Incoming CEOs who are “seasoned executives” (2011–2013)

18

Chart 16 Incoming CEO professional qualifications and skills (2011–2013)

19

Chart 17 Joint election as board chairman (2011–2013)

22

Chart 18 Responsibility for CEO performance review (2013)

23

Chart 19 Frequency of CEO performance review (2013)

24

Chart 20 Responsibility for CEO succession planning (2013)

25

Chart 21 Frequency of CEO succession plan review (2013)

26

Chart 22 Companies adopting CEO auditioning practice (2013)

27

Chart 23 Policy on board retention of departing CEO (2013)

27

Chart 24 Board access to employees without CEO approval (2013)

28

Chart 25 Mandatory CEO retirement policy (2013)

28

Chart 26 CEO age limit (2013)

29

Chart 27 CEO succession planning disclosure (2013)

32

Chart 28 Responsibility for succession announcement (2011–2013)

32

Chart 29 Succession effective date (2011–2013)

33

Chart 30 Stated reason for departure (2011–2013)

34

Chart 31 Stated role of the board in succession planning (2011–2013)

35

Chart 32 Director and management changes in conjunction with CEO succession (2011–2013)


Using This Report CEO Succession Practices annually documents and analyzes succession events of chief executive officers (CEOs) of S&P 500® companies. In addition to updates on historical trends, each edition of this report features discussions of the most notable cases of CEO succession that took place in the calendar year prior to publication (based on press announcements and other publicly available information), as well as the results of a survey of corporate secretaries and general counsel on the succession oversight practices of their boards. This edition’s survey was administered in the fall of 2013 by The Conference Board. Part I: CEO Succession Trends (2000–2013) illustrates year-by-year succession rates and examines the evolution of certain aspects of the succession phenomenon— including the influence of firm performance on succession and the characteristics of the departing and incoming CEOs. When appropriate, the report compares emerging trends in chief executive successions with data available from the 1970s, 1980s, and 1990s to provide a broader historical perspective. Cases of CEO succession were identified using extensive searches of corporate press

releases on the investor relations section of S&P 500 company websites. Each member of the S&P 500 index (at any point in time in 2013) was searched for certain succession-related keywords (specifically: retire, retires, retirement, succession, succeeding, succeeded, succeed, elect, elected, new chief executive, tenure, resign, resigned, depart, departure, and departed). For each identified case, the analysis used financial data retrieved from the Compustat® Executive Compensation (ExecuComp) database and The Center for Research in Security Prices (CRSP) US Stock Database, which were accessed through Wharton Research Data Services (WRDS). Additional information was gathered from corporate press releases. Part II: CEO Succession Practices (2013) is divided into two sections. The first section, “Board Practices in CEO Succession Planning,” details board practices in CEO succession planning based on data from a survey of corporate secretaries, general counsel, and investor relations officers conducted by The Conference Board in collaboration with Stanford Graduate School of Business (GSB) and The Institute of Executive Development (IED).

TECHNICAL NOTES The Conference Board CEO Succession Practices classifies companies in several ways, including by industry (using broad industry definitions from the Standard Industrial Classification system), CEO age, and company financial performance (based on stock returns). Means and percentages in this report are descriptive, not prescriptive, and have been used to identify the latest practices and emerging trends. Unless otherwise specified, figures reported in the commentary refer to mean (or average) survey results. When reference is made to the S&P 500, most of the corresponding charts illustrate findings by referring to both the number of companies and the percentage of the total sample. To avoid confusion in the review of these two sets of information, the reader should be aware that the composition of the S&P 500 varies, depending on the number of companies added and removed from the

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index and data availability constraints. The apparent discrepancy between the number of companies and sample percentages reported in certain instances is therefore due to the actual number of companies in the S&P 500 index that were examined at a particular point in time. Chart 1, on page 12, is based on the aggregate number of S&P 500 companies examined for the purpose of this study in each year of the sample period. Cases of CEO succession were identified using extensive searches of corporate press releases on the investor relations and media sections of S&P 500 company websites. This search process is then cross-checked against a variety of outside sources, including information from the National Association of Corporate Directors (NACD), Spencer Stuart, and the Compustat Executive Compensation (ExecuComp) database. For each identified case, the analysis used financial data retrieved from

ExecuComp and The Center for Research in Security Prices (CRSP) US Stock Database, which were accessed through Wharton Research Data Services (WRDS). Additional information was gathered from corporate press releases. None of the commentaries included in this report should be viewed as a recommendation on planning or administering a CEO succession process, which, for its complexity, does not lend itself to generalizations. For this reason, as mentioned above, The Conference Board recommends that companies develop a plan for CEO succession with care, after considering the specific circumstances each organization faces in the current marketplace, including overall strategic priorities and future business needs. In some instances, the underlying data retrieved from the databases listed above are modified across time. The report revises and notes prior years’ information when such changes arise.

Research Report  ceo succession Practices: 2014 Edition

5


Data were aggregated and analyzed by business sectors (manufacturing, financial services, and nonfinancial services) and size groups (measured by annual revenue and asset value). The second section, “Communication Practices in CEO Succession,” uses a detailed review of the CEO succession announcements of the 42 successions among S&P 500 companies in 2013. The succession announcement analysis is intended to offer guidance for the development of an external communication plan—a fundamental aspect of the CEO succession planning process, especially given increasing shareholder scrutiny of a company’s preparedness to lead transition events. The analysis also captures trends in succession announcement communication. Part III: Notable Cases of CEO Succession (2013) includes summaries of 12 noteworthy CEO succession events at S&P 500 companies in 2013. The section highlights the circumstances surrounding each leadership transition based on important information made public by the company and/or obtained from reputable outside sources. Part IV: Shareholder Activism on CEO Succession Planning (2012–2013) discusses shareholder proposals in this area and highlights two companies in 2013 where succession planning proposals were voted: Google, Inc., and Sirius XM Holdings, Inc. Included is a table listing shareholder proposals related to CEO succession planning submitted for consideration at annual meetings held in 2012 and 2013. The proposals requested that the board initiate the appropriate process to amend the company’s

6

Research Report  ceo succession Practices: 2014 Edition

corporate governance guidelines to adopt and disclose a written and detailed succession planning policy. The Conference Board Roadmap to CEO Succession Planning, which is included as an appendix, outlines a series of steps to help directors organize succession planning, integrate it with existing board responsibilities, make it transparent both within and outside the company, and, ultimately, define it as an ongoing element of business strategy. The approach is intended to be straightforward, practical, and efficient, transforming succession planning from a responsibility that may be avoided to one that is embraced. Because succession planning is not a process in which “one size fits all,” flexibility is built into the guide, consistent with the complexity, sensitivity, and customized leadership demands that individual companies face. Responsibility for succession planning belongs in the board­room and nowhere else. The board of directors is legally authorized, temperamentally suited, and in possession of the authority and experience needed for effective succession planning. The issues that can lead boards to neglect succession planning are primarily organizational—and, to a lesser degree, political, psycho­ logical, and cultural. However, boards can overcome these issues if they are willing to codify the process and make it integral to and continuous with their duties of governance, business oversight, risk management, and strategic decision making. As with the other sections of this report, the hope is that CEO Succession Practices will provide boards with practical assistance related to the performance of these responsibilities.

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Key Findings One of the most important strategic risks that a board of directors must manage is the succession of its chief executive officer (CEO). To make an informed decision, the board should understand not only the technical knowledge and experience necessary to effectively lead the company into the future, but also the context and practices of an effective succession planning process. To provide background information on succession practices and to be of assistance to companies performing this critical task, CEO Succession Practices documents and analyzes succession events regarding the CEO of S&P 500 companies. Additional analysis is based on findings of a survey conducted in the fall of 2013 by The Conference Board in collaboration with Stanford Graduate School of Business (GSB) and The Institute of Executive Development (IED). CEO succession rate The rate of CEO succession in calendar year 2013 was 8.4 percent, down from 10.9 percent in 2012 and below the average succession rate of 10.8 percent for the period 2000–2013 (Chart 1). Company performance as a determinant The probability of CEO succession is higher following poor performance than following better performance (Chart 2). In the 2000–2013 period, the succession rate of CEOs of poorly performing companies ranged from 21.2 percent in 2002 to 10.0 percent in 2006 (on average, 13.9 percent for the period covered). In 2013, the succession rate of CEOs of poorly performing companies was 13.0 percent. The succession rate of CEOs of better-performing companies varied from 6.5 percent in 2002 to 11.6 percent in 2009 (on average, 9.5 percent for the period covered). In 2013, the succession rate of CEOs of better-performing companies was 6.9 percent, which is the lowest rate since 2002. CEO age as a determinant The probability of CEO succession is higher for CEOs who are at least 64 years of age than for younger CEOs (Chart 3). In the 2000–2013 period, the succession rate of CEOs who are at least 64 years old ranged from 29.0 percent in 2011 to 9.4 percent in 2008 (on average, 19.1 percent over the period), while the succession rate of younger CEOs ranged from 5.5 percent in 2013 to 13.4 percent in 2005 (on average, 9.8 percent over the period). The rate of CEO succession for younger CEOs is fairly consistent across the sample. The prevalence of successions involving CEOs at normal retirement age (64) has increased in recent years. Business industry as a determinant The rate of CEO succession had significant variation across industry

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groups during 2013 (Chart 4). The services industries had a succession rate of 3.8 percent in 2013, much lower than its 14-year average of 12.7 percent. By contrast, manufacturing companies had an overall succession rate of 10.7 percent in 2013, slightly lower than the industry’s 14-year average of 11.3 percent. Departing CEO age Across the 2000–2013 sample period, the average departing CEO was 60.0 years old. In 2013, the average age of the departing CEO in the S&P 500 was 62.3 (Chart 6). Departing CEO tenure The average tenure of a departing CEO has declined from approximately 10 years in 2000 to 8.1 years in 2012, although 2013 shows an average tenure of 9.7 years—the longest tenure since 2002 (Chart 8). By contrast, employee tenure across the broader labor market has remained relatively constant during the past 25 years. Disciplinary and nondisciplinary departures The rate of CEO dismissals varies widely across the 2000–2013 period (Chart 9); rates range from 40.0 percent in 2002 to 13.2 percent in 2005 (on average, 24.3 percent for the period). In 2013, the rate of disciplinary successions was at its lowest level since 2009, with a dismissal rate of 23.8 percent. That may be due to improved financial performance, as CEOs tend to be dismissed more frequently when company performance is in decline. Incoming CEO age Across the sample period, the average incoming CEO was approximately 53 years old. In 2013, the average age of the incoming CEO in the S&P 500 was 53.2, with a range of 39 to 66 years old (Chart 11). It is uncommon for a company to appoint an incoming CEO who is at least 62 years old—less than 10 percent of incoming CEOs fit this description in 2013. Inside promotions and outside hires In 2013, 76.2 percent of incoming CEOs were “insiders” who were promoted to the CEO position after serving at least one year with the company (Chart 13). The remaining 23.8 percent were “outsiders,” who had served less than one year with the company. The appointment of outsiders to the CEO role has stabilized in recent years, after a continual upward trend since the 1970s. It is interesting to note that J.C. Penney and Proctor & Gamble rehired their former CEOs, perhaps because the companies were seeking stability after lackluster performance by the departing CEO. There is a new development in the inside/outside discussion: selecting a director from the company’s board as CEO.

Research Report  ceo succession Practices: 2014 Edition

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Tenure-in-company of incoming CEO Across the sample period, the average tenure-in-company of an insider promoted to CEO was 15.1 years (Chart 14). In 2013, 26.2 percent of inside promotions to CEO in 2013 involved a “seasoned executive,” defined as an executive with tenure in the company of at least 20 years, down from 30.2 percent in 2012 (Chart 15). The percentage of successions involving a seasoned executive has continued to decline since the 1980s. Professional qualifications and skills When announcing a transition, nearly all of the boards in the 2013 sample emphasized the professional qualifications of the incoming CEO (92.9 percent) through a description of his or her professional career (Chart 16). In addition, the incoming CEO’s leadership abilities (found in 83.3 percent of the succession announcements studied) and his or her focus on creating firm value (31.0 percent) were frequently discussed. Joint election as board chairman Only 9.5 percent of the successions in 2013 involved immediate joint appointment as board chairman, declining from the 18.8 percent rate in 2012 (Chart 17). Based on a review of succession announcements, 52.4 percent of departing CEOs remained as board chairman for at least a brief transition period, typically until the next shareholder meeting. Responsibility for CEO succession planning Across industries and size groups, only a fraction of companies assign CEO succession planning oversight responsibilities to a dedicated standalone committee of the board (Chart 20). These functions are performed either by the full board (55.6 percent of manufacturing companies, 54.4 percent of nonfinancial services companies, and 36.8 percent of financial services companies) or through delegation to the compensation committee (22.2 percent of manufacturing companies) or the nominating/corporate governance committee (31.6 percent of financial companies). Frequency of CEO succession plan review Across industries and most size groups, the majority of companies reported that their boards review the CEO succession plan on an annual basis (Chart 21). The financial services sector had the highest proportion of companies that reported reviewing the plan less than once a year (5.3 percent, compared to 4.2 percent manufacturing and 2.9 percent of nonfinancial services companies); it also had the lowest proportion of companies reporting that they review the plan more than once a year (21.1 percent, compared with 27.8 percent and 26.5 percent of manufacturing and nonfinancial companies, respectively).

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Research Report  ceo succession Practices: 2014 Edition

CEO auditioning practice The practice of “auditioning” a potential CEO by training and testing him or her through temporary assignments as chief operating officer or chief financial officer is reported by less than half of companies across industries (Chart 22). The analysis by revenue shows that larger companies are much more likely to use it (43.5 percent of companies with annual revenue of at least $20 billion) than smaller ones (31.8 percent of those reporting $500 million or less in revenue). Board retention of departing CEO Across industries, a large majority of companies do not have a formal policy on whether the retiring CEO should continue to serve as a member of the board (Chart 23). In manufacturing, 20.8 percent of companies require the departing CEO to also resign from the board, while 16.7 percent explicitly permit continued board tenure. By annual revenue, there is a clear correlation between the adoption of board retention policies for the departing CEO and company size: Roughly 30 percent of companies with annual revenue of $20 billion or more formally require the CEO to leave the board as part of his or her succession plan, compared with the mere 4.5 percent of companies with annual revenue of less than $500 million that do so. Board access to employees without CEO approval Across all industries and size groups, almost all companies report that nonexecutive board members have direct access to management below the CEO level without CEO approval (Chart 24). Mandatory CEO retirement policy Age-based mandatory retirement policies remain a marginally used element of CEO succession plans (Chart 25). Less than 22 percent of manufacturing companies and financial services companies have an age-based mandatory CEO retirement policy, and less than 14 percent of nonfinancial services companies do so. There is a clear correlation between the frequency of such a policy and annual revenue: manufacturing and nonfinancial companies with annual revenue of $20 billion or greater report the highest rate of adoption (30.4 percent), while those with annual revenue under $500 million report the lowest (4.8 percent). Succession planning disclosure Across industries and size groups, less than half of companies include information on succession planning in their annual disclosure to shareholders (Chart 27). Larger companies are far more likely to include this type of information in their annual report: 39.1 percent of companies in the largest revenue group ($20 billion or greater) and 40.0 percent of those in the largest asset group ($10 billion or greater) indicated that they provide the disclosure.

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Responsibility for succession announcement In 2013, the independent chairman of the board or lead independent director was the director who most frequently (31.0 percent) introduced the incoming CEO to the company’s stakeholders (Chart 28). The announcement was made by the executive chairman of the board in 28.6 percent of successions, which is a slight increase from the 21.6 percent rate in 2012. The remaining 40.5 percent of cases simply state that the board appointed the new CEO, without specific introduction from the board or departing CEO. Succession effective date Of the succession announce-­ ments among S&P 500 companies in 2013, 69.0 percent of companies provide stakeholders with advance notice of a CEO succession, which is significantly higher than the 43.7 percent documented in 2012 (Chart 29). Of these companies, the average lead time to the succession event is two months, although it ranged from as short as two weeks to as long as six months. The remaining 31.0 percent of companies did not provide stakeholders with advanced notice of a CEO succession. Stated reason for CEO departure Roughly 67 percent of succession announcements among S&P 500 companies in 2013 linked the departure of the CEO to retirement (Chart 30). For comparison, if retirement is defined by departing CEO age (CEO age is at least 64 years),

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approximately 43 percent of CEO departures are due to “retirement.” This comparison highlights two possibilities: a number of departing CEOs retire before the age of 64 and/or the stated reasons for the departure in a company’s CEO succession announcement are less than reliable. In 2013, approximately 24 percent of succession announcements linked the departure of the CEO to resignation, an increase from 18.9 percent in 2012. Stated role of the board in CEO succession planning Perhaps surprising, only 11.9 percent of succession announce­ments among S&P 500 companies in 2013 explicitly stated that the incoming CEO was identified through the board’s succession planning process, down from 22.9 percent in 2012 and 32.4 percent in 2011 (Chart 31). Director and management changes in conjunction with CEO succession Of the succession announcements among S&P 500 companies in 2013, 23.8 percent indicated that the CEO change would be accompanied by additional changes at the director or senior executive level (Chart 32). Such changes were either effective immediately or announced within one week. This evidence suggests that CEO succession events are often associated with larger changes in the top management team and board of directors.

Research Report  ceo succession Practices: 2014 Edition

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Part I

CEO Succession Trends (2000–2013)


CEO Succession Rate This section illustrates year-by-year succession rates and examines the evolution of certain aspects of the succession phenomenon—including the influence of firm performance on succession and the characteristics of the departing and incoming CEOs. When appropriate, the report compares emerging trends in chief executive successions with data available from the 1970s, 1980s, and 1990s to provide a broader historical perspective. Cases of CEO succession were identified using extensive searches of corporate press releases on the investor relations or media section of S&P 500 company websites. Each member of the S&P 500 index at any point in time in 2013 was searched for certain succession-related keywords (specifically: retire, retires, retirement, succession, succeeding, succeeded, succeed, elect, elected, new chief executive, tenure, resign, resigned, depart, departure, departed). For each identified case, the analysis included in this section of the report used financial data retrieved from the Compustat Executive

Compensation (ExecuComp) database and The Center for Research in Security Prices (CRSP) US Stock Database. ExecuComp and CRSP were accessed through the Wharton Research Data Services (WRDS), a web-based business data research service from The Wharton School at the University of Pennsylvania. Additional information was gathered from corporate press releases. Chart 1 shows the annual succession rate of S&P 500 CEOs for the 2000–2013 period. The rate of CEO successions in calendar year 2013 was 8.4 percent, which is below the average rate of CEO succession announcements of 10.8 percent for the entire period. While the chart depicts variation in succession rates over time, the only year in which succession events were statistically different from the average rate of 10.8 percent was 2005, when it was nearly 15 percent. In terms of actual numbers, 42 CEOs in the S&P 500 left their position in 2013.

Chart 1

Table 1

CEO succession rates (2000–2013)

CEO succession rates by the numbers (2000–2013)

14.6 12.1 10.2%

9.4

10.3 10.7

11.6 10.2

11.3 10.0

10.9 10.2 10.8 8.4

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

Year

Number of companies

Number of succession cases

2000

420

43

2001

427

40

2002

436

45

2003

450

48

2004

455

55

2005

465

68

2006

491

50

2007

499

58

2008

500

50

2009

495

56

2010

499

51

2011

511

55

2012

488

53

2013

500

42

Source: The Conference Board, based on ExecuComp raw data, 2014.

12

Research Report  ceo succession Practices: 2014 Edition

www.conferenceboard.org


By company performance Chart 2 reports annual succession rates categorized according to whether company performance over the prior two years was in or above the bottom quartile of performance for S&P 500 companies. For the purposes of this analysis, succession rates are defined as the percentage of individuals in the last year of their service at the company in the CEO position, and performance is defined as the two-year total shareholder return (TSR) minus the twoyear TSR of all S&P 500 companies in the same industry. The analysis finds that the average succession rate of CEOs of poorly performing companies (industry-adjusted TSR in the bottom quartile) during the 2000–2013 period was 13.9 percent. The succession rate ranged from 21.2 percent in 2002 to 10.0 percent in 2006. In 2013, the rate was consistent with the prior trend at 13.0 percent. These findings are similar to those from an analysis of succession rates of S&P 500 CEOs between 1970 and 1994, during which the annual succession rate of CEOs of poorly performing companies averaged 15 percent.1 Hence, the rate of CEO departure when stock returns are poor has not substantially changed since the 1970–1994 period, despite enhancements in corporate governance. In addition, the analysis shows that the average succession rate of CEOs of better-performing companies (industryadjusted TSR above the bottom quartile) was 9.5 percent for the 2000–2013 period. The succession rate was lowest

in 2002 (6.5 percent) and highest in 2009 (11.6 percent). In 2013, the succession rate of CEOs of better-performing companies was 6.9 percent, which is the lowest rate since 2002. These findings are similar to, but somewhat lower than, those from an analysis of succession rates of S&P 500 CEOs between 1970 and 1994, during which the annual succession rate of CEOs of better-performing companies was 10.8 percent.2 Overall, the annual succession rate of CEOs of poorly performing companies exceeded that of better-performing companies in nearly each year of the sample period, indicating that the probability of CEO succession is higher following poorer financial performance than following better financial performance.

By departing CEO age Chart 3 shows annual succession rates categorized by whether the CEO was at least 64 years old at the time of the succession announcement, which, for the purposes of this report, is deemed to be the normal age of retirement. The succession rate of CEOs who were at or above this age threshold ranged from 29.0 percent in 2011 to 9.4 percent in 2008 (on average, 19.1 percent for the 14-year period). For younger CEOs, the rates ranged from 5.5 percent in 2013 to 13.4 percent in 2005 (on average, 9.8 percent for the period). The rate of CEO succession for younger CEOs was fairly consistent across the sample.

Chart 2

Chart 3

CEO succession rate by company performance (2000-2013)

CEO succession rate by departing CEO age (2000-2013) Under 64 years old

Top three quartiles Bottom quartile

10.6 9.2%

9.3

8.1

64 years old and older

11.6

11.3 10.4 10.4

8.9

9.6

10.3 9.3

6.5

11.7 9.2% 8.8

6.9

9.5

9.7

13.4 9.9

11.4

10.0 10.3

9.0

10.0 8.3 5.5

13.5% 13.2 21.2 14.4 12.8 15.7 10.0 15.3 12.9 10.5 15.6 12.7 14.1 13.0

1

17.7% 14.0 15.5 16.7 15.4 27.3 13.3 13.9 9.4 24.3 24.0 29.0 19.2 27.7

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Source: The Conference Board, based on raw data from Center for Research in Security Prices (CRSP), 2014.

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

See Kevin Murphy, “Executive Compensation,” Handbook of Labor Economics, Orley Ashenfelter and David Card (eds.) (Burlington, MA: Elsevier, 1999), pp. 2,485–2,563.

www.conferenceboard.org

2

Ibid.

Research Report  ceo succession Practices: 2014 Edition

13


An analysis of CEO succession rates of S&P 500 companies between 1970 and 1994 found that 33 percent of CEOs left the firm at age 64 or 65, while 62 percent of the CEOs departed between the ages of 60 and 66.3 In 2013, approximately 19 percent of CEOs left the firm at age 64 or 65, and approximately 48 percent departed between the ages of 60 and 66. The prevalence of successions involving CEOs at normal retirement age has increased in recent years.

Table 2

Number of successions in each industry (2000–2013) Industry

Overall, the annual succession rate of older CEOs exceeded that of younger CEOs in nearly every year from 2000 to 2013, suggesting that the probability of CEO succession increases when CEOs reach retirement age.

Cases of succession in each industry

Succession rate

Services

12.7%

74

Manufacturing

11.3

175

Wholesale, Retail

10.6

73

Finance, Insurance

10.7

114

Consumer Products

10.4

129

Transportation, Communication

10.8

100

Extraction

7.9

34

Other

9.4

15

Note: Revises calculations published in the 2013 edition.

By industry An important strategic decision, such as a change in executive leadership, will often depend on the market conditions the company is experiencing and, more generally, the industry in which the company operates. Chart 4 shows annual CEO succession rates classified according to the industry in which the company has primary operations. For each industry, the succession rate illustrated in the chart represents the average of the succession rates recorded in calendar year 2013. The rate of CEO succession varies considerably across industry groups. The succession rate of 3.8 percent in the services industry for 2013 is much lower than the average for that sector across the entire period (12.7 percent, as shown in Table 2). Transportation and communication is only other sector where the 2013 succession rate was statistically different from the industry average for the entire 2000–2013 period.

Chart 5

CEO succession rate by industry (2013)

CEO succession concentration by industry (2013) Rate of disciplinary successions (left scale)

10.7% 10.6

Consumer Products

CEO succession rate (right scale)

Finance, Insurance

8.3

70%

18%

Wholesale, Retail

8.3

60

16 14 12 10 8 6 4 2

Ibid.

Research Report  ceo succession Practices: 2014 Edition

7.9

30

10

5.7

3.8% 50.0%

50.0

0.0 0.0

28.6

16.7

10.0

ts

0.0

0

tra

Pr er um

ns Co

66.7

Ex

rin tu ac

od uc

g

r

0

ct Tr io Co ans n m po m rta un ti ic on at , io n

20

he

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

10.6

8.3

uf

Other 0.0

8.3

Ot

3.8

10.7

40

an

Services

50

M

5.7

Se rv W ic ho es le sa le ,R et ail F In ina su n ra ce nc , e

7.9

Extraction Transportation, Communication

14

Chart 5 illustrates the concentration of succession events per industry, as well as the prevalence of succession events due to the dismissal of the departing CEO. For the purposes of this analysis, a CEO dismissal (or disciplinary succession) is defined as a departure occurring prior to the age of 64 and when industry-adjusted TSR (as defined on page 13) is in the bottom quartile of all S&P 500 companies. The remaining CEO successions are categorized as nondisciplinary successions. Nearly 67 percent of CEO succession cases in the extraction industry and 50 percent of successions in the wholesale and retail and services industries were the result of CEO dismissal. In contrast, there were no instances of disciplinary successions in the transportation and communication industries.

Chart 4

Manufacturing

3

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

Source: The Conference Board, based on raw data from Center for Research in Security Prices (CRSP), 2014.

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Characteristics of Departing CEOs Age From 2000 to 2013, the average departing CEO is 60.0 years old. Chart 6 illustrates that the average age of the departing CEO remained relatively constant across time, with an uptick in the average age in 2013 to 62.3. The range in departure ages by industry shows some variation, with the lowest departure age in the services industry (56.2 years

old) and the highest departure age in the extraction and the transportation and communication industries (61.7 and 62.0 years old, respectively). In 2013, Howard Solomon (86 years old, Forest Laboratories, Inc.), Rupert Murdoch (82 years old, News Corp.) and Mort Zuckerman (76 years old, Boston Properties, Inc.) were the oldest departing CEOs.

Chart 6

Chart 7

Departing CEO age (2000–2013) 61.8 60.5 60.2 60.3 60.5 59.9

Departing CEO age by industry (2000–2013) 62.3

61.0 59.2

59.6 58.5

57.8

Transportation, Communication

62.0

Extraction

61.7

60.0 58.5

Consumer Products

60.9

Manufacturing

60.7 60.0

Finance, Insurance 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

58.6

Wholesale, Retail Services

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

Other

56.2 59.7

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

Determinants of CEO Succession: The State of Empirical Research Research on the determinants of CEO succession events supports the following broad conclusions. 1 The age and tenure of the departing CEO The age of the departing CEO is more important in explaining CEO succession than measures of company performance. CEOs with fewer than five years in their current position are more likely to be dismissed for a company’s poor performance than CEOs with longer tenure.

3 Company operating performance CEO succession events are more likely when operating performance is bad than when operating performance is good. As with stock returns, the relationship between CEO succession and company operating performance is a less important driver of succession decisions than CEO age.

2 Company stock performance CEO succession events are more likely when stock returns are bad than when returns are good, and are more likely to occur when performance is poor and the CEO is in his or her first five years of service. However, although the relationship between CEO succession and company stock performance would seem statistically significant, company stock performance remains a less important driver of succession decisions than CEO age.

4 Company size The sensitivity of CEO succession events to company financial performance is generally higher among smaller companies (measured by annual revenue and asset value), while the importance of CEO age in explaining variation in CEO departure is generally highest among larger companies. 5 The board of directors The sensitivity of succession to performance varies with characteristics of the board of directors.

In particular, sensitivity increases with a higher percentage of independent directors and decreases with the percentage of CEO stock holdings and when the CEO is the firm’s founder or is from the founding family. 6 Institutional ownership The sensitivity of succession to performance varies with characteristics of the firm’s investor base. In particular, sensitivity increases with a higher percentage of outside stock holdings (e.g., large outside shareholder). Institutional ownership can have a direct influence on the probability of CEO succession; evidence suggests that the increase in index fund ownership associated with the reconstitution of equity indices (e.g., Russell 1000) increases the probability of CEO turnover.

Sources: Anne T. Coughlan and Ronald M. Schmidt, “Executive compensation, management turnover, and firm performance: an empirical investigation,” Journal of Accounting and Economics, 7 no. 1–3 (1985): 43–66; Jerold B. Warner, Ross L. Watts, and Karen H. Wruck, “Stock prices and top management changes,” Journal of Financial Economics, 20 (1988): 461–492; Michael S. Weisbach, “Outside directors and CEO turnover,” Journal of Financial Economics 20 (1988): 431-460; Robert Parrino, “CEO turnover and outside succession: a cross-sectional analysis,” Journal of Financial Economics 46 no. 2 (1997): 165–197; James A. Brickley, “Empirical research on CEO turnover and firm-performance: a discussion.” Journal of Accounting and Economics, 36 no. 1–3 (2003): 227–233; Kevin Murphy, “Executive Compensation,” in: Orley Ashenfelter and David Card (eds.), Handbook of Labor Economics, 1999, 2,485–2,563; Mark R. Huson, Paul H. Malatesta, and Robert Parrino, “Managerial succession and firm performance,” Journal of Financial Economics 74 (2004): 237–275; J. Harry Evans, Nandu Nagarajan, and Jason D. Schloetzer, “CEO Turnover and Retention Light: Retaining Former CEOs on the Board,” Journal of Accounting Research 48 no. 5 (2010): 1,015–1,047; David Larcker and Bryan Tayan, Corporate Governance Matters (Upper Saddle River, NJ: FT Press, 2012), pp. 203-236; William Mullins, “The governance impact of index funds: evidence from regression continuity,” working paper, Massachusetts Institute of Technology, 2014.

www.conferenceboard.org

Research Report  ceo succession Practices: 2014 Edition

15


Chart 8

Chart 9

Departing CEO tenure (2000–2013)

Disciplinary departures (2000–2013)

Average tenure as CEO (in years)

40.0

11.3 9.9

33.3

9.4

9.3 7.4

27.6

9.7 8.8 8.1

8.0

8.6

8.4 7.2

7.7

8.1

20.9% 22.5

30.0 24.0

18.2 13.2

25.5

29.4 23.8

16.1

16.0

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012* 2013

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

* Revised calculation from 2013 edition, reflecting updates to the underlying dataset. Source: The Conference Board, based on raw data from Center for Research in Security Prices (CRSP), 2014.

Tenure Chart 8 shows that the average tenure of a departing CEO has generally declined in recent times, from approximately 10 years in 2000 to 8.1 years in 2012, although 2013 shows an average tenure of 9.7 years—the longest tenure since 2002. In contrast, employee tenure across the broader labor market has remained relatively constant over the past 25 years: 5.1 years in 2008, compared with 5.0 years in 1983.4 The general decline in average tenure could be due to several factors. For example, the pressure of serving as the CEO of a large company in an increasingly competitive global marketplace could contribute to voluntarily shorter tenures, suggesting that CEOs are leaving on their own terms after fewer years in the position. The increasing presence of privateequity firms has created new employment opportunities for CEO-level talent, attracting such well-regarded executives as James Kilts (formerly of Kraft Foods and Gillette) and David Calhoun (former vice chairman of General Electric). The stronger independence and accountability of directors registered during the last decade and the increased scrutiny from shareholders and activists might motivate corporate boards to be more inclined to dismiss a CEO who is performing below expectations. The lower tenure recorded in 2003 (7.4 years, down from 11.3 years in 2002) may have been related to the US recession that occurred after September 11, 2001, and an increase in widely publicized accounting scandals. The higher tenure recorded in 2013 of 9.7 years may have been related to CEO retirements that were delayed during recent global economic turmoil, which would be consistent with the higher departing CEO age in 2013.

Disciplinary and nondisciplinary departures CEO successions can be distinguished as nondisciplinary and disciplinary, with the latter often attributed to poor company financial performance (see page 14).

Chart 9 highlights how the rate of disciplinary departures has evolved over time. For the purposes of this analysis, a CEO disciplinary succession is defined as a departure occurring prior to the age of 64 and when industryadjusted TSR (as defined on page 13) is in the bottom quartile of all S&P 500 companies. The remaining successions are categorized as nondisciplinary. Chart 9 shows that disciplinary successions vary rather widely across the sample period; rates range from 40.0 percent in 2002 to 13.2 percent in 2005 (on average, 24.3 percent for the 14-year period). In 2013, the rate of disciplinary successions was at its lowest level since 2009, with a dismissal rate of 23.8 percent. That may be due to improved financial performance, as CEOs tend to be dismissed more frequently when company performance is in decline. Chart 10 highlights how disciplinary CEO successions vary across industry classifications in 2013. In particular, nearly 67 percent of CEO succession cases in the extraction industry and 50.0 percent of successions in the wholesale and retail and services industries were the result of the dismissal of the departing CEO. In contrast, there were no instances of disciplinary successions in the transportation and communication industries in 2013. Chart 10

Disciplinary departures by industry (2013) % Disciplinary successions

66.7%

Extraction Wholesale, Retail

50.0

Services

50.0 28.6

Finance, Insurance Manufacturing Consumer Products

16.7 10.0

Transportation, Communication 0.0 Other 0.0

4

16

Craig Copeland, “Employee Tenure, 2008,” Employee Benefit Research Institute, EBRI Notes, 31, no. 1, January 2010 (www.ebri.org/pdf/notespdf/ EBRI_Notes_01-Jan10.Tenure_Ret-Hlth.pdf).

Research Report  ceo succession Practices: 2014 Edition

Source: The Conference Board, based on raw data from Center for Research in Security Prices (CRSP), 2014.

www.conferenceboard.org


Characteristics of Incoming CEOs Age Charts 11 and 12 report trends in the average age of an incoming CEO. The average age of the incoming CEO is similar across time and industry, with an average of 53.2 years old and a range of approximately 39 to 66 years old. It is uncommon for a company to appoint an incoming CEO who is at least 62 years old—less than 10 percent of incoming CEOs fit this description in 2013. Chart 12 reports the average age of an incoming CEO by industry classification.

Inside promotions and outside hires Chart 13 illustrates that 76.2 percent of incoming CEOs in the succession events that occurred in 2013 were “insiders,” who were promoted to the CEO position after serving at least one year with the company. The remaining 23.8 percent were “outsiders,” who had served less than one year with the company, which represents a modest decrease in the appointment of outsiders compared to the 27.1 percent rate in 2012. Chart 11

Incoming CEO age (2000–2013) 54.7 53.2 52.2

52.8 52.8

51.7

52.8

52.3

53.1 53.2

53.2 53.0

52.1

51.9

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database, company IR websites, and Bloomberg Executive Profile and Biography, 2014.

During the 1970s, only 8.3 percent of incoming CEOs of S&P 500 companies (31 of 373 CEO succession events) were appointed from outside the company. In the 1980s, this fraction increased to 10.4 percent of incoming CEOs (36 of the 347), and by the early 1990s, nearly 20 percent of incoming CEOs were outside hires (54 of 285 incoming CEOs between 1990 and 1996).5 From 2009 to 2013, nearly 25 percent of incoming CEOs on average were outside hires, reaching 27.1 percent in 2012. This pattern of evidence suggests that the upward trend in the hiring of outsiders to fill vacated CEO positions is continuing into the 2010s, albeit with less momentum. There is a new development in the inside/outside discussion: selecting a director from the company’s board as CEO. Forest Laboratories, Inc., appointed its sitting compensation committee chairman as incoming CEO. Similarly, in 2012, SAIC and Visa, Inc., each appointed a member of their board as incoming CEO. A benefit of appointing a director as CEO is that the director is likely well-informed about the company’s strategy and business model. This benefit is echoed by Howard Solomon, departing CEO of Forest Laboratories, who stated, “As a director on the Forest board for over two years, Brent [Saunders, incoming CEO] has developed a deep understanding of our business and has proven himself to be an outstanding strategic and creative thinker.” On the other hand, appointing a director as CEO might be seen as a lack of preparedness on the company’s part to successfully groom internal talent. There is some evidence that board members who become the CEO outperform all other types of candidates, including insiders and outsiders, perhaps because of a director’s unique combination of insider and outsider characteristics.6 Chart 13

Inside promotions and outside hires (2011–2013)

Chart 12

Incoming CEO age by industry (2000–2013) 54.7

Finance, Insurance

80.8

50.2

19.2

0

52.0

Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database, company IR websites, and Bloomberg Executive Profile and Biography, 2014.

27.1

2011 (N=55)

52.1

Wholesale, Retail

www.conferenceboard.org

72.9

52.4

Manufacturing

23.8

2012 (N=53)

52.9

Extraction

Other

76.2%

53.0

Consumer Products

Outsider

2013 (N=42)

53.7

Transportation, Communication

Services

Insider

100%

Source: The Conference Board based on data from company IR websites, 2014.

5

Murphy, “Executive Compensation,” Handbook of Labor Economics.

6

James M. Citrin and Dayton Ogden, “Succeeding at Succession,” Harvard Business Review, November 2010 (http://hbr.org/2010/11/succeeding-atsuccession/ar/1).

Research Report  ceo succession Practices: 2014 Edition

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It is interesting to note that J.C. Penney and Proctor & Gamble rehired their former CEOs, perhaps because the companies were seeking stability after lackluster performance by the departing CEO. These two cases are examined in greater detail in Part III, “Notable Cases of CEO Succession (2013),” p. 36.

Tenure-in-company of insider appointments Chart 14 shows that the average tenure-in-company of an insider at the time of promotion to CEO was 15.1 years across the sample period.7 The analysis also examined whether an inside promotion was a “seasoned executive,” defined as an executive with tenure in the company that exceeds 20 years. Chart 15 reports that 26.2 percent of inside promotions to CEO in 2013 involved seasoned executives, down from 30.2 percent in 2012 and 32.0 percent in 2011. Chart 14

Average tenure-in-company of insiders (2000–2013) Years with company 18.0 14.0

19.0

19.0 17.0

17.0 13.0

15.8 16.2

14.0

13.7 12.0

12.0

10.0

For comparison, the percentage of incoming CEOs who were seasoned executives declined from 58 percent at the end of the 1980s to 46 percent by 1996.8 Consequently, the percentage of successions involving incoming CEOs with at least 20 years of experience in the company has continued to decline. The data show that better-performing companies are more likely to appoint a seasoned executive as CEO: 34.6 percent of incoming CEOs in companies that had better performance (industry-adjusted TSR, as defined on p. 13, above the bottom quartile of all S&P 500 companies) were seasoned executives, compared to 12.5 percent of incoming CEOs in companies in poorly performing companies.

Professional qualifications and skills Company press releases that announce a CEO succession event provide a glimpse into the characteristics of the incoming CEO that are most emphasized to external stakeholders. Chart 16 highlights the professional characteristics and skills of incoming CEOs that are most commonly emphasized in succession announcements. In 2013, in 92.9 percent of announcements, the professional qualifications of the incoming CEO were emphasized, including a description of his or her professional career and educational background. In addition, leadership abilities (83.3 percent of succession announcements) and strategic planning skills (35.7 percent) were also frequently discussed. Chart 16

Incoming CEO professional qualifications and skills (2011–2013)

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

Chart 15

Incoming CEOs who are “seasoned executives” (2011–2013) Non-seasoned

2013 (N=42)

2012 (N=53)

92.9% 93.8 84.6

Professional qualifications

83.3

Seasoned

39.6 42.3

Leadership abilities

2013 (N=42) 73.8%

26.2

Strategic planning skills

2012 (N=53) 69.8

30.2 Board experience

2011 (N=55) 68.0

2011 (N=55)

32.0

0

100%

Create firm value

Note: A “seasoned executive” has 20 years or more with the company. Source: The Conference Board, based on raw data from Compustat Executive Compensation (ExecuComp) database and company IR websites, 2014.

Global acumen

22.9 23.1

35.7

33.3 29.2 23.2 31.0 37.5 42.3 30.9 16.7 21.2

Source: The Conference Board, based on data from company IR websites, 2014. 7

18

This analysis is based on a subsample of CEO succession events; the data source does not report details on the date all CEOs joined the company as an employee.

Research Report  ceo succession Practices: 2014 Edition

8

Murphy, “Executive Compensation,” Handbook of Labor Economics.

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It appears that succession announcements emphasize incoming CEO characteristics that are desirable to share­ holders, given the firm’s current position. For example, in 2013, the press release announcing the promotion of an insider to the CEO position is shorter in length (approximately 400 words) and more likely to state that the appointment is due to the firm’s CEO succession plan. The press release for the appointment of an outsider to the CEO position is longer in length (approximately 700 words) and is more likely to discuss in detail the CEO’s leadership abilities, strategic vision, and focus on shareholder value creation.

Chart 17

Joint election as board chairman (2011–2013) Not a chairman

2013 (N=42) 90.5%

Some departing CEOs appear to remain actively involved in the company after relinquishing the CEO role. When the board of Lockheed Martin announced the appointment of

9.5

2012 (N=53) 81.2

18.8

2011 (N=55) 80.8 0

Joint election as board chairman Chart 17 reports that only 9.5 percent of the successions in 2013 involved immediate joint appointment as board chairman, which is a significant decline from the 18.8 percent rate in 2012, and the 19.2 percent rate in 2011. Based on a review of 2013 succession announcements, 52.4 percent of departing CEOs remained as board chairman for at least a brief transition period, typically until the next shareholder meeting. This rate is higher than the approximately 33 percent rate reported in 2012. In 2011, a majority of departing CEOs remained as chairman for at least a brief transition period.

Named chairman

19.2 100%

Source: The Conference Board, based on data from company IR websites, 2014.

Marillyn Hewson as CEO in 2012, departing CEO Robert Stevens agreed to “…remain very active and involved in our company’s work, playing any role that would be of value.…”9 PetSmart’s departing CEO, Bob Moran, agreed to “…remain active and valuable as executive chairman.”10 Other boards use a CEO succession to trigger the separation of CEO and chairman duties. Upon announcing Arnold Donald as CEO and Micky Arison as chairman of the board, Carnival Corporation’s board stated that the announcement was part of its “plan to split the roles of chairman and chief executive officer.”11 Other companies that split the chairman/CEO roles upon changing CEOs include General Motors12 and HCP, Inc.13

9

“Lockheed Martin Board Elects Marillyn A. Hewson CEO and President and Member of the Board,” The Lockheed Martin Corp. press release, November 9, 2012 (www.lockheedmartin.com/us/news/press-releases/2012/ november/110912-corp-leadership.html).

10 “PetSmart Announces Planned Management Succession,” PetSmart, Inc., press release, January 22, 2013 (http://phx.corporate-ir.net/phoenix. zhtml?c=196265&p=irol-newsArticle&ID=1776753&highlight=succession). 11 “Carnival Corporation & plc to Split Roles of Chairman and CEO,” Carnival Corp. & plc press release, June 25, 2013 (http://www.prnewswire.com/ news-releases/carnival-corporation--plc-to-split-roles-of-chairman-andceo-212921441.html). 12 “Dan Akerson to Retire as GM CEO in January 2014,” General Motors Company press release, December 10, 2013 (http://media.gm.com/content/ media/us/en/gm/news.detail.html/content/Pages/news/emergency_ news/2013/1210-gm-execs.html). 13 “Jones Lang LaSalle’s Martin Named New CEO of HCP; McKee Elevated to Non-Executive Board Chairman,” HCP, Inc., press release, October 3, 2013 (http://ir.hcpi.com/phoenix.zhtml?c=67541&p=irolnewsArticle&ID=1861222&highlight).

www.conferenceboard.org

Research Report  ceo succession Practices: 2014 Edition

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Part II

CEO Succession Practices (2013)


Board Practices in CEO Succession Planning This section uses data about board practices in CEO succession planning from a survey of corporate secretaries, general counsel, and investor relations officers conducted in the fall of 2013 by The Conference Board in collaboration with Stanford Graduate School of Business and The Institute of Executive Development (IED). Data are aggregated and analyzed by business sectors (manufacturing, financial services, and nonfinancial services) and size groups (measured by annual revenue and asset value). See “Using This Report” on page 5 for more information about the survey methodology. While the description of succession planning seems relatively straightforward, the successful execution of this process is often complicated by several factors:

• Succession planning often is not assigned to a standing board committee.

• Directors understandably prioritize compliance and deadlinedriven duties due to a constraint on available time.

• Internal candidates may not develop as planned or may depart the company.

• The chief executive may resign without notice, experience health issues, or deliver unanticipated poor performance.

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These issues, whether individually or in combination, can limit the development of a succession plan or derail a well-developed plan entirely. The ultimate feasibility of any succession plan will therefore depend on the effectiveness of the board in managing the core process and responding to unforeseen events. The board of directors conducts a periodic CEO performance review process for the purpose of assessing the progress made in the pursuit of the company’s business strategy and providing the basis for future expectations. Succession planning and leadership development are an integral part of the process; they are designed to ensure a smooth transition to new leadership and to mitigate the uncertainties resulting from any sudden loss of talent. Moreover, listing standards by the New York Stock Exchange (NYSE) require boards to explicitly address in their organization’s corporate governance guidelines the policies on the selection and performance review of the CEO, including the procedure that the company intends to follow in a turnover situation. For this reason, this section includes an analysis of survey data on the board-level responsibility for CEO performance reviews and their frequency.

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Responsibility for CEO performance review Chart 18

Chart 18 illustrates the delegation of primary responsibility to assess the performance of the chief executive. These data show that the percentage of financial services companies that opt for a model in which the compensation committee is responsible for reviewing CEO performance is the same as the share of companies that assign such responsibility to the full board (47.4 percent). The involvement of the full board of directors in the CEO performance evaluation process is the prevalent choice among manufacturing firms (48.6 percent). The nonfinancial services group had the highest percentage of respondents indicating that the process is overseen by their nominating/governance committee. Across industries, the percentage of companies delegating the responsibility to the board chairman or lead director ranges from 4.2 to 7.4 percent.

Responsibility for CEO performance review (2013) Full board of directors

Compensation committee

Nominating/corporate governance committee

Board chairman/ lead director

Other

BY INDUSTRY Manufacturing (N=72) 48.6%

36.1

11.1 4.2

Financial services (N=19) 47.4

47.4

5.3

Nonfinancial services (N=68) 39.7

32.4

13.2

7.4 7.4

BY ANNUAL REVENUE $20 billion and over (N=23)

There is no clear correlation between the delegation of responsibility for the CEO performance review process and company size. However, 11.1 percent of financial companies with asset value of less than $10 billion entrust their board chairman or lead director with this task, a much higher figure than in any of the other size groups.

60.9

26.1

8.7 4.3

$5 billion – $19.9 billion (N=28) 53.6

3.6

14.3

21.4

7.1

$1 billion – $4.9 billion (N=47) 36.2

6.4 6.44.3

46.8 $500 million – $999 million (N=20)

35.0

10.0 5.0

50.0 Under $500 million (N=22)

40.9

18.2

27.3

4.5 9.1

BY ASSET VALUE $10 billion and over (N=10) 50.0

50.0 Under $10 billion (N=9)

44.4

44.4

0

11.1 100%

Note: Percentages may not add up to 100 due to rounding. Source: The Conference Board/Stanford GSB/IED, 2014.

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Frequency of CEO performance review Chart 19

According to Chart 19, the CEO performance review process takes place annually for almost all companies, irrespective of their industry or size groups. Across industries, financial services companies report the highest percentage of performance reviews of the CEO occurring more than once a year (21.1 percent). In manufacturing and nonfinancial companies, a similar percentage (21.7) is found only in the largest group, with annual revenue of $20 billion or higher. A handful of companies report situations in which CEO performance is evaluated only when circumstances warrant: 2.9 percent of nonfinancial services companies, 4.5 percent of companies with annual revenue of $500 million or less, and 5 percent of those with annual revenue between $500 million and $999 million.

Frequency of CEO performance review (2013) Once a year

More than once a year

When circumstances warrant

BY INDUSTRY Manufacturing (N=72) 83.3%

16.7 Financial services (N=19) 21.1

78.9 Nonfinancial services (N=68)

2.9

85.3

11.8 BY ANNUAL REVENUE $20 billion and over (N=23)

78.3

21.7 $5 billion – $19.9 billion (N=28)

85.7

14.3 $1 billion – $4.9 billion (N=47)

91.5

8.5

$500 million – $999 million (N=20) 65.0

5.0

30.0 Under $500 million (N=22)

4.54.5

90.9 BY ASSET VALUE $10 billion and over (N=10)

20.0

80.0 Under $10 billion (N=9) 77.8

22.8 100%

0

Note: Percentages may not add up to 100 due to rounding. Source: The Conference Board/Stanford GSB/IED, 2014.

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Responsibility for CEO succession planning Chart 20 shows that only a very small fraction of companies across industries and size groups assign CEO succession planning oversight responsibilities to a dedicated standalone committee of the board. Instead, these functions are performed either by the full board (55.6 percent of manufacturing companies, 54.4 percent of nonfinancial services companies, and 36.8 percent of financial services companies) or through delegation to the compensation committee (22.2 percent of manufacturing companies) or the nominating/corporate governance committee (31.6 percent of financial companies).

Chart 20

Responsibility for CEO succession planning (2013) Full board of directors

Compensation committee

CEO succession planning committee

Nominating/corporate governance committee

Other

BY INDUSTRY Manufacturing (N=72)

2.8

2.8

22.2

55.6%

16.7

Financial services (N=19) 36.8

For all but one size group by revenue, there is a direct correlation between the assignment of CEO succession planning oversight responsibilities to the compensation committee and company size, with as much as 26.1 percent of companies with annual revenue of at least $20 billion choosing this structure. The delegation to the nominating/ corporate governance committee is reported by as much as 50 percent of financial companies with asset value of more than $10 billion.

21.1

5.3

31.6

5.3

Nonfinancial services (N=68) 2.9

17.6

54.4

5.9

19.1

BY ANNUAL REVENUE $20 billion and over (N=23) 60.9

4.3 8.7

26.1 $5 billion – $19.9 billion (N=28)

50.0

3.6

21.4

25.0

$1 billion – $4.9 billion (N=47) 55.3

4.3

19.1

21.3

$500 million – $999 million (N=20) 55.0

5.0 5.0 10.0

25.0 Under $500 million (N=30) 9.1

54.5

31.8

4.5

BY ASSET VALUE $10 billion and over (N=10) 40.0

10.0

50.0

Under $10 billion (N=9) 33.3

33.3

11.1

11.1

0

11.1 100%

Note: Percentages may not add up to 100 due to rounding. Source: The Conference Board/Stanford GSB/IED, 2014.

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Frequency of CEO succession plan review Chart 21

Chart 21 illustrates data on the frequency of the CEO succession plan review. Across industries and most size groups, the majority of companies reported that their boards review the CEO succession plan on an annual basis. Of corporate boards in the financial services sector, 5.3 percent review the plan less frequently than once a year. Similarly, the financial services sector shows the lowest percentage of cases in which the review is conducted more frequently than annually (21.1 percent, compared to 27.8 in manufacturing and 26.5 in nonfinancial services).

Frequency of CEO succession plan review (2013) Annually

More frequently than annually

Less frequently than annually

Only when a change in circumstances requires it (e.g., in event of retirement, emergency, etc.)

Never

BY INDUSTRY Manufacturing (N=72) 54.2%

2.8

27.8

4.2 11.1

Financial services (N=19)

The analysis based on company size shows that the highest share of companies in which the CEO succession plan is reviewed only when a change in circumstances warrants it (e.g., in event of retirement, sudden death or illness, or other emergencies) is reported in the smallest group of less than $500 million in annual revenue (31.8 percent) and in the smallest group of less than $10 billion of asset value (11.1 percent).

63.2

21.1 Nonfinancial services (N=68)

54.4

5.3 10.5

2.9

26.5

16.2

BY ANNUAL REVENUE $20 billion and over (N=23) 65.2

30.4

4.3

$5 billion – $19.9 billion (N=28) 28.6

64.3

7.1

$1 billion – $4.9 billion (N=47) 27.7

48.9

2.1

8.5

12.8

$500 million – $999 million (N=20) 50.0

30.0

5.0 15.0

Under $500 million (N=22) 45.5

18.2

31.8

4.5

BY ASSET VALUE $10 billion and over (N=10) 20.0

70.0

10.0

Under $10 billion (N=9) 55.6

22.2

11.1

0

11.1 100%

Note: Percentages may not add up to 100 due to rounding. Source: The Conference Board/Stanford GSB/IED, 2014.

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CEO auditioning practice

Board retention of departing CEO

Literature on CEO succession planning praises the benefits of CEO “auditioning� practices, during which the board of directors does not place an outsider directly into the CEO slot but first trains and tests the candidate through temporary assignments as chief operating officer or chief financial officer. Chart 22 shows that the auditioning practice is adopted by less than half of companies across industries; however, when measured by revenue, larger companies are much more likely to use it than smaller ones: 43.5 percent of companies with annual revenue of at least $20 billion conduct CEO auditioning, compared to 31.8 percent of those reporting $500 million or less in revenue.

As part of their succession planning process, companies may also have a policy stating whether the retiring CEO should continue to serve as a member of the board and remain involved in the business leadership for a limited time following the appointment of the new CEO. While common in the past, this practice has become less prevalent, as companies moved toward a board composition model based on principles of independence and expertise diversification. Continued involvement by the retired CEO also poses the risk of undermining the new leadership, since the new CEO could be constrained by an overzealous predecessor.

Chart 22

Companies adopting CEO auditioning practice (2013) BY INDUSTRY Manufacturing (N=72)

38.9%

Financial services (N=19)

42.1

Nonfinancial services (N=68)

30.9

BY ANNUAL REVENUE $20 billion and over (N=23)

43.5

$5 billion - $19.9 billion (N=28)

46.4

$1 billion - $4.9 billion (N=47)

27.7

$500 million - $999 million (N=20)

30.0

Under $500 million (N=22)

31.8

BY ASSET VALUE $10 billion and over (N=10)

20.0

Under $10 billion (N=9)

66.7

As shown in Chart 23 (page 27), across industries, a large majority of companies indicated that they do not have a formal policy of this type. In manufacturing, 20.8 percent have a requirement for the departing CEO to also resign from the board, whereas 16.7 percent explicitly permit continued board tenure. Chart 23 also illustrates a clear correlation between the adoption of board retention policies for the departing CEO and the size of the company, when measured in terms of annual revenue. Approximately 30 percent of companies with annual revenue of $20 billion or greater formally require that the CEO leaves the board as part of his or her succession plan. This finding compares with the mere 4.5 percent of companies with annual revenue of less than $500 million. In financial services companies, when present, the policy explicitly permits board retention: this is the case for one out of 10 companies with assets valued at $10 billion or less and for two out of 10 companies with assets valued at more than $10 billion.

Source: The Conference Board/Stanford GSB/IED, 2014.

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Board access to employees without CEO approval Chart 23

Policy on board retention of departing CEO (2013) The policy permits continued board tenure

No policy

The policy requires the departing CEO to resign from the board BY INDUSTRY Manufacturing (N=72) 20.8

16.7%

62.5 Financial services (N=19)

15.8

84.2 Nonfinancial services (N=68)

8.8 10.3

80.9

To adequately perform his or her role to oversee CEO performance, a board member may find it helpful to interact directly with senior managers, both formally and informally, and assess such dimensions as current leadership skills, strategic thinking, and operational knowledge. Nonexecutive directors, in particular, may choose to visit the company’s facilities and obtain a perspective on how the CEO and other senior managers are perceived by other employees. Offsite events and other casual gatherings could also be organized and used by board members to observe how the possible future candidates to the CEO position interact in a more informal social environment. Data included in Chart 24 confirm that, in the majority of companies, nonexecutive board members have direct access to management below the CEO level without CEO approval.

BY ANNUAL REVENUE $20 billion and over (N=23) 17.4

30.4

52.2

Chart 24

Board access to employees without CEO approval (2013)

$5 billion – $19.9 billion (N=28) 7.1

BY INDUSTRY

71.4

21.4

$1 billion – $4.9 billion (N=47) 19.1

66.0

14.9

Manufacturing (N=71)

85.9%

Financial services (N=19)

89.5 97.1

Nonfinancial services (N=68)

$500 million – $999 million (N=20) 10.0 5.0

85.0

BY ANNUAL REVENUE

Under $500 million (N=22)

$20 billion and over (N=23)

90.9

4.54.5

95.7 92.9

$5 billion – $19.9 billion (N=28) $1 billion – $4.9 billion (N=47)

89.4 94.7

$500 million – $999 million (N=19)

BY ASSET VALUE

Under $500 million (N=22)

$10 billion and over (N=10)

86.4

80.0

20.0

BY ASSET VALUE

Under $10 billion (N=9) 11.1

88.9

0

100.0

$10 billion and over (N=10) 100%

Under $10 billion (N=9)

77.8

Note: Percentages may not add up to 100 due to rounding. Source: The Conference Board/Stanford GSB/IED, 2014.

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Source: The Conference Board/Stanford GSB/IED, 2014.

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Mandatory CEO retirement policy Chart 26

As shown in Chart 25, mandatory retirement policies based on age remain a marginally used element of CEO succession plans. Only 21.4 percent of manufacturing companies and 21.1 percent of financial services companies adopt an age-based mandatory retirement policy for CEOs, and the number is even lower in the nonfinancial services sector (13.2 percent). The analysis by company size shows a clear direct correlation between the frequency of such a policy and the annual revenue of the companies: manufacturing and nonfinancial companies with annual revenue of $20 billion or greater report the highest rate of adoption (30.4 percent), while those with annual revenue under $500 million report the lowest (4.8 percent).

CEO age limit (2013) 64 yearsof-age

66 yearsof-age

Other

BY INDUSTRY Manufacturing (N=15) 6.7%

86.7

6.7

Financial services (N=4) 100.0 Nonfinancial services (N=9) 77.8

CEO age limit Of the companies adopting a mandatory CEO retirement policy based on age, the limit after which the CEO is expected to retire is almost always 65 years of age (Chart 26).

22.2

BY ANNUAL REVENUE $20 billion and over (N=7) 100.0 $5 billion – $19.9 billion (N=7)

Chart 25

14.3

Mandatory CEO retirement policy (2013) BY INDUSTRY

71.4

14.3

$1 billion – $4.9 billion (N=7)

Manufacturing (N=70) Financial services (N=19)

21.4%

100.0

21.1

$500 million – $999 million (N=2)

13.2

Nonfinancial services (N=68)

100.0 Under $500 million (N=1)

BY ANNUAL REVENUE

100.0 30.4

$20 billion and over (N=23)

25.0

$5 billion – $19.9 billion (N=28)

BY ASSET VALUE 12.9 $10 billion and over (N=2)

15.2

$1 billion – $4.9 billion (N=46)

10.0

$500 million – $999 million (N=20) Under $500 million (N=21)

65 yearsof-age

12.9

100.0

4.8

Under $10 billion (N=2) 100.0

BY ASSET VALUE $10 billion and over (N=10) Under $10 billion (N=9)

20.0 22.2

0

100% Note: Percentages may not add up to 100 due to rounding. Source: The Conference Board/Stanford GSB/IED, 2014.

Source: The Conference Board/Stanford GSB/IED, 2014.

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Succession planning disclosure Succession planning works best when it is conducted transparently within the organization and communicated openly to outside stakeholders. Transparency can be achieved by establishing proper communication channels throughout the organization and by including critical information on the role of the board, as well as the main program features, in disclosure documents filed annually with the US Securities and Exchange Commission (SEC). Transparency does not extend to the disclosure of sensitive data or other proprietary information that could under­ mine the company’s competitive position (for example, the names of prospective CEO candidates typically would not be disclosed). Based on the industry analysis illustrated in Chart 27, approximately 31.6 percent of companies in the financial services sector include in their annual disclosure to shareholders information on succession planning. The number is lower in manufacturing and nonfinancial services (26.8 percent and 20.6 percent, respectively). As Chart 27 shows, there is a direct correlation between disclosure practices and company size, with larger companies being far more prone to include this type of information in their annual report: 39.1 percent of companies in the largest revenue group ($20 billion or greater) and 40 percent of those in the largest asset group ($10 billion or greater) indicated that they provide the disclosure.

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Chart 27

CEO succession planning disclosure (2013) BY INDUSTRY 26.8%

Manufacturing (N=71)

31.6

Financial services (N=19)

20.6

Nonfinancial services (N=68)

BY ANNUAL REVENUE 39.1

$20 billion and over (N=23)

28.6

$5 billion – $19.9 billion (N=28) $1 billion – $4.9 billion (N=47) $500 million – $999 million (N=20) Under $500 million (N=21)

19.1 20.0 14.3

BY ASSET VALUE 40.0

$10 billion and over (N=10) Under $10 billion (N=9)

22.2

Source: The Conference Board/Stanford GSB/IED, 2014.

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Communication Practices in CEO Succession This section draws on a detailed analysis of the CEO succession announcements that companies in the S&P 500 made to the press (Table 3). This analysis is offered as guidance in the development of an external

communication plan—a fundamental aspect of the CEO succession planning process, especially given the increased shareholder scrutiny of the company’s preparedness for leadership transition events.

Table 3

CEO succession cases in 2013 used for press release analysis Company name

New CEO

Age

Placement

Former CEO

Age

Reason for change

Analog Devices Inc.a

Vincent Roche

53

Inside

Jerald Fishman

67

Death

Applied Materials, Inc.

Gary Dickerson

56

Inside

Michael Splinter

62

Resign

Boston Properties, Inc.

Owen Thomas

51

Outside

Mort Zuckerman

76

Retire

Carnival Corp.

Arnold Donald

58

Inside

Micky Arison

64

Split chairman/CEO roles

CenterPoint Energy, Inc.

Scott Prochazka

47

Inside

David McClanahan

64

Retire

Chesapeake Energy Corp.b

Steven Dixon (interim April 1, 2013-June 17, 2013)

54

Outside

Robert Lawler

46

Interim (April 1, 2013– June 17, 2013)

Robert Lawler

46

Outside

Aubrey McClendon

54

Retire

Duke Energy Corp.

Lynn Good

54

Inside

Jim Rogers

66

Retire

E*TRADE Financial Corp.c

Frank Petrilli (Interim, August 9, 2012–January 22, 2013)

62

Inside

Steven Freiberg

56

Resign

Paul Idzik (announced January 17, 2013, effective January 22, 2013)

53

Outside

Frank Petrilli

62

Interim (August 9, 2012– January 22, 2013)

Larry Probst

62

Inside

John Riccitiello

53

Resign

Andrew Wilson

39

Inside

Larry Probst

62

Interim (March 18, 2013– September 15, 2013)

EOG Resources, Inc.

William Thomas

61

Inside

Mark Papa

67

Retire

Flir Systems, Inc.

Andrew Teich

51

Inside

Earl Lewis

69

Retire

Forest Laboratories, Inc.

Brenton Saunders

43

Outside

Howard Solomon

86

Retire

General Dynamics Corp.

Phebe Novakovic

55

Inside

Jay Johnson

66

Retire

General Motors

Mary Barra

51

Inside

Dan Akerson

65

Retire

HCP, Inc.

Laurelee Martin

62

Outside

James Flaherty III

55

Terminate

Intel Corp.

Brian Krzanich

52

Inside

Paul Otellini

62

Retire

J.C. Penney Co.

Myron Ullman

66

Inside

Ronald Johnson

54

Resign

Johnson Controls

Alex Molinaroli

53

Inside

Stephen Roell

63

Retire

Legg Mason, Inc.e

Joseph Sullivan

54

Inside

Mark Fetting

57

Resign

Leucadia National Corp.

Richard Handler

51

Outside

Ian Cumming

73

Merger

Lockheed Martin Corp.

Marillyn Hewson

58

Inside

Robert Stevens

62

Retire

Marathon Oil Corp.

Lee Tillman

52

Outside

Clarence Cazalot

62

Retire

Electronic Arts, Inc.d

Table continues on page 31. a Roche was appointed interim CEO on March 29, 2013 (www.analog.com/en/press-release/03_29_13_ADI_Grieves_Sudden_Passing_of__Jerry/press.html). His permanent appointment as CEO was announced May 6, 2013 (www.analog.com/en/press-release/5_6_2013_ADI_Appoints_Vincent_Roche_CEO/press.html). b Dixon served as acting CEO from April 1 to June 17, 2013 (www.chk.com/News/Articles/Pages/1801730.aspx). Lawler became CEO, effective June 17, 2013 (www.chk. com/news/articles/Pages/1821954.aspx). c Paul Idzik was named as CEO on January 17, 2013, effective January 22, 2013 (https://about.etrade.com/releasedetail.cfm?ReleaseID=734227). d Probst was appointed as executive chairman on March 18, 2013 (http://investor.ea.com/releasedetail.cfm?ReleaseID=749234). Wilson was appointed as CEO on September 15, 2013 (www.ea.com/news/introducing-eas-new-ceo). e Joseph Sullivan was appointed permanent CEO on February 13, 2013, after serving as interim chief since October 1, 2012. (www.leggmason.com/press/ releases/02_13_2013.pdf).

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Table 3

CEO succession cases in 2013 used for press release analysis (continued) Company name

New CEO

Age

Placement

Former CEO

Age

Reason for change

Mead Johnson Nutrition Co.

P. Kasper Jakobsen

51

Inside

Stephen Golsby

58

Retire

Murphy Oil Corp.

Roger Jenkins

52

Inside

Steven Cossé

66

Resign

Neilsen

Dwight “Mitch” Barns

50

Inside

David Calhoun

54

Retire

News Corp.

Robert Thomson

52

Outside

Rupert Murdoch

82

Reorganization

PetSmart, Inc.

David Lenhardt

43

Inside

Robert Moran

62

Retire

Philip Morris International

Andre Calantzopolous

55

Inside

Louis Camilleri

58

Retire

PNC Financial Services Group

William Demchak

50

Inside

James Rohr

64

Retire

Procter & Gamble Co.

A.G. Lafley

66

Inside

Robert McDonald

60

Retire

Qualcomm

Steve Mollenkopf

44

Inside

Paul Jacobs

51

Retire

Rockwell Collins, Inc.

Robert “Kelly” Ortberg

53

Inside

Clay Jones

64

Retire

Safeway, Inc.

Robert Edwards

57

Inside

Steven Burd

63

Retire

Sealed Air Corp.

Jerome Peribere

58

Inside

William Hickey

68

Retire

Time Warner Cable

Robert Marcus

48

Inside

Glenn Britt

64

Retire

U.S. Steel Corp.

Mario Longhi

59

Inside

John Surma

59

Retire

Vornado Realty Trust

Steven Roth

72

Inside

Michael Fascitelli

55

Resign

Wal-Mart

Doug McMillon

47

Inside

Mike Duke

63

Retire

WellPoint, Inc.f

John Cannon (Interim August 28, 2012-March 24, 2013)

58

Inside

Angela Braly

51

Resign

Joseph Swedish

61

Outside

John Cannon

58

Interim (August 28, 2012– March 24, 2013)

Western Digital Corp.

Stephen Milligan

49

Inside

John Coyne

63

Retire

Weyerhaeuser Co.

Doyle Simons

49

Outside

Dan Fulton

65

Retire

Xylem Inc.

Steven Loranger

61

Inside

Gretchen McClain

50

Resign

f WellPoint announced Swedish’s appointment as CEO on February 12, 2013, effective March 25, 2013 (http://phx.corporate-ir.net/phoenix.zhtml?c=130104&p=irolnewsArticle&ID=1784404&highlight=). Source: The Conference Board, based on raw data from Compustat Executive Compensation (Execucomp) database and company IR websites, 2014.

Based on the review, the typical succession announcement of a CEO succession presents the following elements:

• A description of the incoming CEO’s professional

• Details on when the succession will become effective,

• Details on other changes in directors or senior manage-

why the departing CEO is leaving office, and whether the incoming CEO will be named board chairman.

• A statement from the departing CEO on his or her belief that the board has selected a qualified incoming CEO as a replacement.

• The lead independent director states that the incoming CEO is the right choice for the firm, given the firm’s current position, and thanks the departing CEO for his or her service.

• The incoming CEO states that the firm’s existing management team is strong, the company is well-positioned for the future, and expresses his or her appreciation that the board has selected him or her as chief executive.

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qualifications. ment that will take place as a result of the CEO succession, if necessary.

While the typical CEO succession announcement contains these components, there is some variation in the length of such announcements. For example, succession announcements are approximately 75 percent longer when the firm appoints an outside hire as CEO because more information about the incoming CEO’s professional qualifications is disclosed to investors. Succession announcements are approximately 27 percent shorter when the CEO appointment is effective immediately, as there is less discussion about the timeline of the upcoming succession event.

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Responsibility for succession announcement Chart 28 shows that the independent chairman of the board or lead independent director was the director who most frequently introduced the incoming CEO to the company’s stakeholders (31.0 percent of the succession cases in 2013). In 2013, the executive chairman of the board was the director who announced 28.6 percent of successions, which is a slight increase from the 22.6 percent rate in 2012. The remaining 40.5 percent of cases in 2013 simply state that the board has appointed the new CEO, without specific introduction from the board or departing CEO, up significantly from 2012 and 2011 (15.1 and 9.6 percent, respectively).

Succession effective date Chart 29 reports that 69.0 percent of companies provide stakeholders with advance notice of a CEO succession, which is significantly higher than the 43.7 percent documented in 2012 and the 50.0 percent documented in 2011. Of these companies, the average lead time to the succession event becoming effective is two months, although it ranged from as short as two weeks to as long as six months. The remaining 31.0 percent of companies did not provide stakeholders with advanced notice of a CEO succession. Given the increasing focus by shareholders and regulators on the succession planning duties of company boards, it is perhaps surprising that approximately one-third of succession announcements in 2013 were effective immediately, although this rate is down from more than 50 percent in 2012.

Time Warner Cable is an example of a firm that provided stakeholders with several months’ notice about a pending CEO succession. The company announced on July 25, 2013: “Glenn A. Britt, Time Warner Cable’s chairman and chief executive officer, announced today that he will retire at the end of 2013. The Time Warner Cable board of directors, at today’s regularly scheduled meeting, elected Robert D. Marcus, currently the company’s president and chief operating officer, to succeed Britt as chairman and CEO, effective January 1, 2014. Mr. Britt will remain on the board in a non-executive role at that time.”14 Should a board wait to announce a CEO succession? Such a delay could be justified if the board is undertaking an external search for a replacement CEO, which could make it more difficult to identify the CEO-in-waiting several months in advance. Another potential reason for a delayed announcement could be that the board is addressing an unexpected CEO departure or the dismissal of a poorly performing CEO. For example, 46.2 percent of CEO successions that were effective immediately involved a CEO who resigned from the position. In contrast, only 13.8 percent of CEO successions that provided advance notice involved a CEO resignation. Chart 29

Succession effective date (2011–2013) Effective immediately

2013 (N=42) 31.0%

Chart 28

56.3

None

50.0

2013 (N=42) 31.0

0

40.5

62.3

50.0 100%

Source: The Conference Board based on data from company IR websites, 2014.

2012 (N=53) 22.6

43.7

2011 (N=55)

Independent chairman/lead director

28.6%

69.0

2012 (N=53)

Responsibility for succession announcement (2011–2013) Executive chairman of the board

In the future

15.1

2011 (N=55) 61.5

28.8

9.6

0

100% Note: Percentages may not add up to 100 due to rounding.

Source: The Conference Board based on data from company IR websites, 2014.

14 “Glenn A. Britt to Retire from Time Warner Cable at Year’s End; Robert D. Marcus Elected to Succeed Britt as Chairman and CEO,” Time Warner Cable Inc. press release, July 25, 2013 (http://ir.timewarnercable.com/investorrelations/investor-news/financial-release-details/2013/Glenn-A-Britt-toRetire-from-Time-Warner-Cable-at-Years-End-Robert-D-Marcus-Elected-toSucceed-Britt-as-Chairman-and-CEO/default.aspx).

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Examples of References to Succession Planning in Press Releases from 2013 business partner and Boston Properties co-founder Ed Linde passed away. I could not be more pleased that, after a very thorough process, Owen Thomas will become our new CEO.”b

Note: Emphasis added. Lockheed Martin “Fortunately, we have a strong leadership team and a robust succession plan that allowed the board and me [Robert Stevens, departing CEO] to react quickly and appropriately to this situation. Marillyn [Hewson, incoming CEO] is an exceptional leader with impeccable credentials and deep knowledge of our business, customers, shareholders and employees.”a

PetSmart “During the last several years, we have focused on and invested in strategic succession planning, and as a result, we’ve assembled what I believe is one of the best leadership teams in retail,” said [departing CEO Bob] Moran. “Looking ahead, this planned management succession will allow us to remain focused on executing the strategies that have been key to our success over the past several years.”c

Boston Properties “As part of our succession planning process with the board, we have been focused on identifying the right person to take over as CEO of the company— a role I [Mort Zuckerman, departing CEO] inherited in 2010 after my long-time

United States Steel “I [John Surma, departing CEO] am pleased that our

well-established succession planning process has produced such a capable and experienced executive who deserves the opportunity to lead U. S. Steel and our new management team into the future.”d Qualcomm “Qualcomm Incorporated (NASDAQ: QCOM) today announced that its board of directors has unanimously approved a succession plan for executive management of the company.… Qualcomm’s board of directors is responsible for ensuring the continuity of the company’s senior leadership and that the executive team possesses the experience, skills and character required to achieve the company’s goals.”e

a Announcement of this 2013 succession event occurred in late 2012. “Lockheed Martin Board Elects Marillyn Hewson CEO and President and Member of the Board,” Lockheed Martin press release, November 9, 2012 (www.lockheedmartin.com/us/news/press-releases/2012/november/110912-corp-leadership.html). b “Boston Properties Announces CEO Succession Plan,” Boston Properties, Inc., press release, March 11, 2013 (http://ir.bostonproperties.com/phoenix.zhtml?c=120176&p=irol-newsArticleB&ID=1794301&highlight=). c “PetSmart Announces Planned Management Succession,” PetSmart, Inc., press release, January 22, 2013 (http://phx.corporate-ir.net/phoenix.zhtml?c=196265&p=irol-newsArticle&ID=1776753&highlight=succession). d “U.S. Steel President Mario Longhi to Become CEO; John P. Surma Becomes Executive Chairman,” United States Steel Corp. press release, August 16, 2013 (www.ussteel.com/uss/portal/home/newsroom/pressreleases). e “Qualcomm Names Steve Mollenkopf CEO and President,” Qualcomm Inc. press release, December 13, 2013 (www.qualcomm.com/media/releases/2013/12/13/qualcomm-names-steve-mollenkopf-ceo-and-president).

Stated reason for CEO departure Chart 30 illustrates the stated reasons for the CEO’s departure. Roughly 67 percent of the succession announce­ ments among S&P 500 companies in 2013 linked the departure of the CEO to “retirement.” For comparison, if retirement is defined by departing CEO age (CEO age is at Chart 30

Stated reason for departure (2011–2013) Retirement

Health concerns

Resignation/stepped down Other

No reason

2013 (N=42)

2.4

66.7%

23.8

7.1

2012 (N=53) 41.5

18.9

3.8 9.4

26.4

least 64 years), approximately 43 percent of CEO departures are due to “retirement.” This comparison highlights two possibilities: many departing CEOs retire before the age of 64 and/or the stated reasons for the departure in a company’s CEO succession announcement are less than reliable. Approximately 24 percent of succession announcements linked the departure of the CEO to resignation. Press releases often do not explicitly state that a CEO was forced from his position. However, the board of HCP, Inc., made it clear to investors that its departing CEO was ousted. After announcing the appointment of Lauralee Martin as CEO, “[t]he board also elected Michael D. McKee, 67, the company’s lead director, as non-executive chairman. They succeed James F. Flaherty III, who has been terminated as chairman, president and CEO.”15

2011 (N=55) 43.6 0

20.0

5.5 9.1

21.8 100%

Source: The Conference Board based on data from company IR websites, 2014.

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15 “Jones Lang LaSalle’s Martin Named New CEO of HCP; McKee Elevated to Non-Executive Board Chairman,” HCP, Inc., press release, October 3, 2013 (http://ir.hcpi.com/phoenix.zhtml?c=67541&p=irolnewsArticle&ID=1861222&highlight=).

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Stated role of the board in CEO succession planning Formalized documentation of a succession planning process has become a central topic of boardroom discussion. This formalization is a result of increased shareholder pressure and the decision by the SEC to change its guidance on the excludability of investor resolutions requesting more information on CEO succession plans. Boards have been defining the delegation of oversight responsibilities in succession planning more clearly (in some cases, assigning the process to either the compensation or nominating/ governance committee), setting the time frame for a periodic plan review, and, in some cases, endorsing related policies, such as CEO auditioning, board retention of the retiring CEO, or the direct access by board members to senior management without CEO approval. Given the increasing degree of formalization of succession plans, the 2013 succession announcements were reviewed for specific references to succession planning. Chart 31 shows that only 11.9 percent of succession announcements in 2013 stated that the incoming CEO was identified through the board’s succession planning process. This is notably less than the rate of 22.9 percent of announcements in 2012 and 32.4 percent of announcements in 2011. There appears to be a link between inside promotion to the CEO position and the succession planning process— 80.0 percent of announcements that mention the board’s role in the succession planning process involve an insider appointment as incoming CEO, whereas only one succession that involved an outside hire referenced succession planning.

Chart 31

Stated role of the board in succession planning (2011–2013) The announcement refers to the role of the board The announcement does not refer to the role of the board

2013 (N=42) 11.9%

88.1

2012 (N=53) 22.9

77.1

2011 (N=55) 32.4 0

67.6 100%

Source: The Conference Board based on data from company IR websites, 2014.

Some companies refer to a CEO search process as their method of identifying the next CEO. For example, W. Allen Reed, Legg Mason’s nonexecutive chairman, who led the board’s search committee, said, “Following a very comprehensive search, that considered a broad list of highly qualified candidates, Joe [Sullivan, incoming CEO] was deemed by the board to have the best combination of personal management skills and professional experience to lead Legg Mason forward. The selection process included not only the search committee and the board, but also the leaders of our affiliate managers and senior corporate leadership.”16

16 “Joseph A. Sullivan Appointed President and Chief Executive Officer of Legg Mason, Inc.,” Legg Mason, Inc., press release, February 13, 2013 (http:// ir.leggmason.com/file.aspx?IID=102761&FID=16035428).

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Director and management changes in conjunction with CEO succession One potentially overlooked aspect of the CEO succession planning process is that its culmination is frequently associated with other important changes in the board and senior management. Chart 32 reports that 23.8 percent of succession announcements in 2013 were accompanied by such changes. Moreover, several companies announced management changes within a few days of the succession announcement. For example, U.S. Steel issued three separate press releases on August 16, 2013. The first press release announced the appointment of Mario Longhi as CEO, while the second and third press releases announced the appointment of a new chief financial officer and the retirement of the company’s general counsel.17 PetSmart announced the appointment of a new chief operations officer to replace the current one, who was promoted to the CEO role.18 In general, outside CEO appointments are frequently associated with the election of the new CEO to the board, the potential departure of the sitting CEO from the board, and a change in at least one position within the senior management team (most commonly, the chief operating officer or the chief financial officer). Inside CEO appointments may or

Chart 32

Director and management changes in conjuction with CEO succession (2011–2013) Companies that made no other top-level changes Companies that also changed at least one director or member of senior management

2013 (N=42) 76.2%

23.8

2012 (N=53) 60.4

39.6

2011 (N=55) 50.0 0

50.0 100%

Source: The Conference Board based on data from company IR websites, 2014.

may not require the election of a new board member, but they are often associated with the departure of a senior executive. The observed changes in the composition of senior management might signal these managers believe that they have lost the succession race, reflect their allegiance to the departing CEO, or a general change in top management beyond the chief executive position.

17 “U. S. Steel General Counsel and Senior Vice President — Corporate Affairs James D. Garraux to Retire,” “David B. Burritt Named Chief Financial Officer at United States Steel Corporation,” and “U. S. Steel President Mario Longhi to Become CEO; John P. Surma Becomes Executive Chairman,” United States Steel Corp. press releases, August 16, 2013 (www.ussteel.com/uss/portal/ home/newsroom/pressreleases). 18 “PetSmart Announces Planned Management Succession,” PetSmart Inc. press release, January 22, 2013 (http://phx.corporate-ir.net/phoenix. zhtml?c=196265&p=irol-newsArticle&ID=1776753&highlight=succession).

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Part III

Notable Cases of CEO Succession (2013)


This section includes summaries of 12 cases of CEO succession that made headlines in 2013. It highlights the circumstances surrounding the leadership transition, with key information made public by the company and/or taken from other reputable sources. The sources are listed in a box accompanying each case study.

A case of sudden death

During a May 21, 2013, earnings conference call with analysts, the first following his permanent appointment as CEO, Roche stated, “I worked beside Jerry for many years and while, of course, we all miss him greatly on a personal level, Dave [Zinsner, ADI’s chief financial officer and vice president of finance] and I, along with our senior management team and the many talented employees of ADI, will continue to do great things together.”

Analog Devices, Inc.

Departing CEO (age) Jerald G. Fishman (67)

Summary of events On March 29, 2013, Analog Devices, Inc., (ADI) announced the sudden death of 67-year-old CEO Jerald G. Fishman from an apparent heart attack.

Stated reason for departure Death

The company announced that, in accordance with its bylaws, ADI president Vincent Roche was appointed interim CEO by the board. “This is a terrible loss for me personally and for all of us here at ADI,” Ray Stata, ADI co-founder and board chairman, said in a statement. Stata continued, “Vince, together with the leadership team Jerry put in place, know the company well and know what they have to do to continue the company’s success.” Roche, 53, joined ADI in 1988 and served in a number leadership positions during his nearly 25-year career, including worldwide sales, strategic marketing, and product management. He became president in 2012. On May 6, 2013, the company announced Roche’s permanent appointment as president and CEO, making him only the third CEO to lead the company since its founding in 1965. The company also announced his election to the board, effective immediately. “Vince’s long tenure and his deep understanding of our technology, customers, and markets will serve ADI well as we continue to execute on the strategic plan which Vince played a major role in shaping,” said Stata. “I’m confident that Vince will continue the record of success in which all ADI employees take great pride.” “I am honored to take the helm of this great company and privileged to follow in Ray Stata’s and Jerry Fishman’s footsteps as President and CEO,” Roche said. “I am committed to advancing the company’s strategy and working with the senior management team to move the company forward and continue our record of success for employees, customers, and shareholders.” That day, shares of Analog Devices rose 1.8 percent to close at $45.82.

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Incoming CEO (age) Vincent Roche (53) Incoming CEO qualifications Interim CEO since March 2013. Joined ADI in 1988 as a senior marketing engineer. Served as a member of senior management since 2001. Held senior positions for ADI in Ireland, Massachusetts, and California, including marketing director for the analog semiconductor division; product line director; head of operations in San Jose, California; vice president of worldwide sales, and vice president, sales and strategic market segments group. Promoted to president in 2012. Succession type Insider Joint election as board chairman No Corporate governance guidelines The board selects the CEO “in the manner that it determines to be in the best interests of the company’s stockholders.” The nominating and corporate governance committee oversees a periodic review by the board of succession planning, which includes transitional leadership in the event of an unplanned vacancy. The entire board assists the committee in finding and evaluating potential successors to the CEO. The CEO provides recommendations and evaluations of potential successors, along with a review of any recommended development plans. SEC filings The company’s proxy statement, filed January 31, 2013, lists CEO succession as a responsibility of the full board, and oversight of the board’s review of succession planning with respect to senior executives as among the responsibilities of the nominating and corporate governance committee. The company’s annual report, filed November 26, 2013, mentions succession planning among its risk factors: “Our continued success depends to a significant extent upon the recruitment, retention and effective succession of our executive officers and key management and technical personnel, particularly our experienced engineers.”

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Sources: “Analog Devices Grieves Sudden Passing of Jerry Fishman, Chief Executive Officer,” Analog Devices, Inc., press release, March 29, 2013 (www.analog.com/en/press-release/03_29_13_ADI_Grieves_Sudden_ Passing_of__Jerry/press.html); “Analog Devices Appoints Vincent Roche CEO,” Analog Devices, Inc., press release, May 6, 2013 (www.analog. com/en/press-release/5_6_2013_ADI_Appoints_Vincent_Roche_CEO/ press.html); “Executive Officers: Vincent Roche, president and chief executive officer,” Analog Devices, Inc., website (http://investor.analog. com/management.cfm), accessed January 15, 2014; Analog Devices, Inc., annual report (Form 10-K), filed November 26, 2013, p. 15 (http:// investor.analog.com/index.cfm); Analog Devices, Inc., proxy statement, filed January 31, 2013 (http://investor.analog.com/index.cfm); Analog Devices, Inc., Corporate Governance Guidelines, December 2013 (http:// investor.analog.com/governance.cfm); Analog Devices, Inc., Form 8-K, filed March 29, 2013 (http://investor.analog.com/sec.cfm?DocType=Current& Year=&FormatFilter=); Analog Devices, Inc., Form 8-K, filed May 6, 2013 (http://investor.analog.com/sec.cfm?DocType=Current&Year=&FormatFil ter=); “Analog Devices Management Discusses Q2 2013 Results,” earnings call transcript,” Seeking Alpha, May 21, 2013 (http://seekingalpha.com/ article/1452011-analog-devices-management-discusses-q2-2013-resultsearnings-call-transcript?part=single); Benjamin Pimentel, “Apple Keeps Tech Shares in Green,” MarketWatch, May 6, 2013 (www.marketwatch. com/story/apple-google-rise-facebook-netflix-fall-2013-05-06).

A case of leadership reorganization and an interim appointment

E*TRADE Financial Corp. Summary of events After a five-month search, E*TRADE Financial Corp. announced the appointment of banking industry veteran Paul T. Idzik as its CEO, on January 17, 2013. The appointment, effective January 22, made Idzik, a former Barclays executive, the online brokerage’s seventh CEO (including interim chiefs) since 2007. Idzik took the reins from E*TRADE chairman Frank J. Petrilli, who had served as interim CEO since August 2012, when the company ousted former CEO Steven Freiberg. Freiberg, a former Citi executive, was dismissed two years into a four-year contract amid the company’s struggle to recover from heavy losses in its mortgage business. His ouster followed a decision by the company not to pursue a sale, despite prodding by hedge fund Citadel LLC, its largest shareholder at the time. “Paul brings great strengths to our business at this very important time for our company,” Petrilli said. “Paul is recognized in the financial services industry for his strong leadership skills and his demonstrated ability to deliver results and create shareholder value.…He has a proven track record of building strong teams, and working with multiple stakeholders. Paul is the right person to lead E*TRADE as we continue to execute on our strategic and capital plan.”

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“E*TRADE has great strengths, from its iconic brand to its industry-leading technology and its world-class product and service offerings,” Idzik said. “These will serve the company well as we work to grow the franchise and deliver value to shareholders.” Idzik was also named president of E*TRADE Bank and appointed to serve on the boards of both the bank and the parent company. E*TRADE said Petrilli would continue as chairman, while Rodger A. Lawson would remain on the board, but would step down as lead independent director, a role he took on when Petrilli became interim CEO in August 2012. Idzik most recently served as group chief executive of DTZ Holdings PLC in London. Previously, he spent 10 years at Barclays PLC, as group chief operating officer and as chief operating officer of Barclays Capital. He also spent more than a decade at Booz Allen Hamilton. The CEO announcement “didn’t generate a sustained buzz among investors,” according to the Wall Street Journal, which reported that the “lack of enthusiasm likely stems from the market’s belief that E*TRADE won’t be sold any time soon.” The report referenced a client note written by JMP Securities analyst David Trone, which stated a belief that “any takeover premium that is in the stock will likely be given back, as this move signals E*TRADE’s board’s desire to remain independent.” E*TRADE’s stock initially rose 1.7 percent on word of its new leadership, but reversed course to finish only a penny higher, at $9.87. The stock later rose 0.5 percent to $9.92 in after-hours trading. As E*TRADE has struggled to recover from bad bets made on the US housing market, its CEO post has been a revolving door. Prior to Freiberg’s dismissal, Robert Druskin, another Citi veteran, served as interim CEO from December 2009 until March 2010. Druskin followed Donald Layton, who stepped down in 2009 at the end of a two-year contract. Layton succeeded interim CEO R. Jarrett Lilien, the former president and COO who led E*TRADE after Mitchell Caplan stepped down in November 2007. Idzik’s appointment preceded a flurry of other changes in the company’s management and the board. In March 2013, Petrilli and board member Ronal D. Fisher announced that they would not stand for re-election. The company named Lawson to replace Petrilli as chairman following his re-election during the company’s May annual meeting.

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“My decision to not stand for re-election was a difficult one, but reflects my other business and time commitments,” Pertilli said. “I believe that Paul Idzik is wellequipped to lead E*TRADE forward and that Rodger Lawson will make an excellent chairman.” Fisher, a board member since October 2000, cited expanded responsibilities as president of SoftBank Holdings, Inc., as the reason for his decision. Later the same month, Citadel founder Kenneth Griffin told the company he wouldn’t stand for re-election, according to a Form 8-K, filed March 22, 2013. Several other E*TRADE top executives, including marketing chief Nicholas Utton and brokerage head Michael Curcio, also left shortly after Idzik’s arrival. On March 13, 2013, Citadel sold its entire 9.6 percent stake in the company, which the Wall Street Journal reported as a “yet another reminder that a sale isn’t coming any time soon.” Departing CEO (age) Stephen Freiberg (55)

The chairman (or lead director, if applicable) and the compensation committee lead an annual evaluation of the performance of the CEO together with the board. The compensation committee leads an annual evaluation of the performance of the company’s senior executives, which is reported to the full board in connection with compensation awards and is incorporated in the succession planning. SEC filings The company’s proxy statement, filed March 29, 2013, notes that the board’s succession planning activities are led by the governance committee. The risk management section of the proxy notes that, among other things, the compensation committee assists the board in evaluating risks arising from succession planning for executive officers, while the governance committee assists the board in overseeing risks associated with director succession planning. There was no succession planningrelated disclosure in the company’s annual report, filed February 26, 2013.

Stated reason for departure Resignation Incoming CEO (age) Paul T. Idzik (51) Incoming CEO qualifications Group chief executive of DTZ Holdings PLC in London. Served 10 years at Barclays PLC, as group chief operating officer, and previously as Barclays Capital chief operating officer. Served more than a decade as a consultant at Booz Allen Hamilton as a partner in the financial services practice. Succession type Outside hire Joint election as board chairman No Corporate governance guidelines The board reviews a succession plan for the CEO and other senior executives regularly (and at least annually) and approves changes, as appropriate. The governance committee, in consultation with the CEO, leads the review of the management succession plans and recommends changes, if appropriate. The plans include policies for CEO selection and succession in the event of the incapacitation, retirement, or removal of the CEO; evaluations of, and development plans for, any potential successors; and issues associated with preparedness for the possibility of an emergency situation involving the CEO and other senior executives. The governance committee leads the reviews; however, the entire board has primary responsibility for CEO succession planning and the development of both longterm and contingency plans for CEO succession.

www.conferenceboard.org

Sources: “E*TRADE Financial Appoints Paul T. Idzik Chief Executive Officer,” E*TRADE Financial Corp., press release, January 17, 2013 (https:// about.etrade.com/releases.cfm); “E*TRADE Board of Directors Appoints Chairman Frank J. Petrilli Interim Chief Executive Officer,” E*TRADE Financial Corp., press release, August 9, 2012; “E*TRADE Financial Corporation Announces Conclusion of Review of Strategic Alternatives,” E*TRADE Financial Corp., press release, November 10, 2011; “E*TRADE to Name Rodger A. Lawson Chairman of the Board of Directors,” E*TRADE Financial Corp., press release, March 8, 2013; “E*TRADE Financial Appoints Steven Freiberg Chief Executive Officer,” E*TRADE Financial Corp., press release, March 22, 2010; “E*TRADE Financial Corp. Names Robert Druskin Chairman and Interim CEO,” E*TRADE Financial Corp., press release, December 21, 2009; “E*TRADE Financial Announces $2.5 Billion Investment Led by Citadel,” E*TRADE Financial Corp., press release, November 29, 2007; E*TRADE Financial Corp. Corporate Governance Guidelines, as amended May 8, 2013 (https://about.etrade.com/documentdisplay. cfm?DocumentID=220); E*TRADE Financial Corp., proxy statement, filed March 29, 2013 (https://about.etrade.com/results.cfm); E*TRADE Financial Corp. annual report (Form 10-K), filed February 26, 2013 (https:// about.etrade.com/results.cfm); “E-Trade Names Ex-Barclays Exec Idzik as New CEO,” Associated Press, January 17, 2013 (www.businessweek. com/ap/2013-01-17/e-trade-names-ex-barclays-exec-idzik-as-new-ceo); Brett Philbin, “E-Trade Names Former Barclays COO Idzik as CEO,” Wall Street Journal, January 17, 2013 (http://online.wsj.com/article/BT-CO20130117-712732.html); Jenny Strasburg, “Knight Capital’s Chief Ponders His Options,” Wall Street Journal, October 25, 2012 (http://online.wsj. com/news/articles/SB100014240529702038974045780769213409378 86); Azam Ahmed, “E*TRADE Replaces CEO Amid Turnaround Effort,” New York Times, August 9, 2012 (http://dealbook.nytimes.com/2012/08/09/ etrade-names-new-interim-ceo/); “E*TRADE Chairman Petrilli to Leave and Be Replaced by Lawson,” Reuters, March 8, 2013 (www.reuters.com/ article/2013/03/08/etrade-chairman-moves-idUSL1N0C03S420130308); Jed Horowitz, “E*TRADE Names Morgan Stanley’s Nandra as President,” Reuters, April 30, 2013 (www.reuters.com/article/2013/04/30/etradepresident-idUSL2N0DH2VF20130430); “Citadel’s Griffin Stepping Down from E*TRADE Board,” Reuters, March 22, 2013 (http://uk.reuters.com/ article/2013/03/22/etrade-citadel-idUKL3N0CEXQG20130322); Brett Philbin, “E*Trade Loses Largest Shareholder as Citadel Sells Out,” Wall Street Journal, March 14, 2013 (http://blogs.wsj.com/deals/2013/03/14/ etrade-loses-largest-shareholder-as-citadel-sells-out/).

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A case of insider promotion

Electronic Arts Inc. Summary of events On March 18, 2013, Electronic Arts Inc. (EA) suddenly announced that John Riccitiello would step down as CEO and as a member of the board at the end of the month. The board appointed former CEO and long-time board chair Larry Probst to serve as executive chairman to “ensure a smooth transition and to lead EA’s executive team” while it searched for a permanent CEO. The press release, which described the change as a mutual decision, noted that the board would hire an executive search firm to consider internal and external candidates. The announcement came at the same time EA said revenue and earnings per share for the quarter might miss its guidance. “I am proud of what we have accomplished together, and after six years I feel it is the right time for me pass the baton and let new leadership take the company into its next phase of innovation and growth,” Riccitiello stated in the press release announcement. In addition to a press release announcement and regulatory filing, EA communicated the news via its company blog. A letter to employees posted by Riccitiello to the company’s blog the same day said the decision to leave EA “is really all about my accountability for the shortcomings in our financial results this year. It currently looks like we will come in at the low end of, or slightly below, the financial guidance we issued to the Street, and we have fallen short of the internal operating plan we set one year ago. And for that, I am 100 percent accountable.” In the release, Probst thanked Riccitiello for his contribu­ tions, stating: “John has worked hard to lead the company through challenging transitions in our industry, and was instrumental in driving our very significant growth in digital revenues. We appreciate John’s leadership and the many important strategic initiatives he has driven for the company. We have mutually agreed that this is the right time for a leadership transition.” Probst also posted a blog about the leadership transition the same day. Probst previously served as the company’s CEO from 1991 to 2007 and as board chairman since 1994. “As we begin the CEO search, we are fortunate that Larry, who has a proven track record with our employees, partners and customers, has agreed to assume a day-today leadership role as executive chairman,” said Richard A. Simonson, lead director.

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Citing a struggle with pressures that included a shift in game play to the internet and a slide in demand for games played on videogame consoles, a March 18, 2013, Wall Street Journal report said EA’s shares had fallen nearly two-thirds since Riccitiello was named CEO in 2007. “Investors appeared to approve of the change, sending the company’s stock up 3.2 percent to $19.30 in after-hours trading,” the report stated. A research report by analysts at Pacific Crest Securities said Riccitiello was “not well-liked” by EA investors, and described his departure as “the final step of a regime change….His hand-picked executives have mostly all already departed, including the CFO and COO, who already left....The heads of his biggest acquisitions…have already left, and the company has seen a lot of turnover. EA needs a lot more than a new CEO, but that would be a promising start.” The firm cited chief operating officer Peter Moore as the most likely candidate for CEO. “If not Mr. Moore, we think EA will go after someone with a strong digital background. If Mr. Moore is passed over, EA might risk losing another executive.” Six months later, on September 15, the board appointed insider Andrew Wilson as CEO and a director. The appointment, effective September 17, made Wilson the first EA studio executive to serve as CEO. At age 39, he was also much younger than the average age (53.2) of the incoming CEOs studied. Probst said he would continue as executive chairman “for an indefinite period” to support the transition. Wilson, who rose through the ranks since joining EA in May 2000, most recently served as executive vice president of EA Sports since August 2011 and as senior vice president of that division from March 2010 to August 2011. Prior to that, he served as senior vice president of global online and as vice president of EA SPORTS. “The rigorous search conducted by our board included several talented executives from both outside the company and from within EA,” Probst wrote in a blog post. “Andrew’s appointment is a clear demonstration of the deep bench of management talent at EA, and reflects our fundamental belief that EA is on track to become the global leader in interactive games and services.”

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On the company’s blog, Wilson wrote, “In the short term, our mission is crystal clear: We are 100 percent focused on delivering our FY14 business plan. We have made strong progress in the first half of the fiscal year, establishing financial discipline and continuing to create a slate of fantastic games for current and next-generation consoles, mobile and PC. But now we’ve got to finish the job—execute in Q3 and Q4 and deliver on the promises we made to our fans and our shareholders.” Wilson beat out at least three other candidates who had been named as front-runners. One potential candidate, Don Mattrick, president of Microsoft’s interactive entertainment unit, took a CEO job at Zynga instead. Upon that news, analyst Michael Pachter of Wedbush Morgan speculated that EA would “ultimately choose between the top two internal candidates,” Moore and executive vice president Frank Gibeau. Soon after Wilson’s appointment, several executives from EA’s Chillingo, Criterion, and PopCap businesses departed, and Pachter speculated that Gibeau might leave. He was “reassigned to a much less influential position and promptly sold all of his stock, so I think he is planning a move soon,” Pachter said in an interview with Videogaming247. “I would expect him to stick around a couple more years to help Andrew ease into the CEO role.” While Wilson’s appointment may have been unexpected, it was well-received, at least by analysts, according to a report by GamesIndustry International. Departing CEO (age) John Riccitiello (53) Stated reason for departure Resignation Incoming CEO (age) Andrew Wilson (39) Incoming CEO qualifications Joined EA in May 2000. Served as executive vice president of EA SPORTS since August 2011, and as senior vice president of that division from March 2010 to August 2011. Prior to that, he served as senior vice president of global online, and as vice president of EA SPORTS. Succession type Insider Joint election as board chairman No

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Corporate governance guidelines The board determines policies and principles for selection of the CEO and policies regarding succession in the event of an emergency or the retirement of the CEO. SEC filings According to the company’s proxy statement, filed June 14, 2013, the nominating and governance committee is responsible for reviewing the performance of the CEO and for reviewing and ensuring the quality of the company’s succession plans, including with respect to CEO succession. The committee manages the process for emergency planning in the event the CEO is unable to fulfill his/her responsibilities, and also periodically evaluates internal and external CEO candidates for succession planning purposes. The committee’s review of director and CEO succession is also mentioned in “The Board of Director’s Oversight of Risk Issues” section of the proxy. In addition, the proxy notes that, in fiscal 2013, the compensation committee’s calendar included, among other things, a review of talent and succession planning. There was no succession planning-related disclosure in the company’s annual report, filed May 22, 2013.

Sources: Andrew Wilson, “A Message from CEO Andrew Wilson,” The Beat, September 17, 2013 (www.ea.com/news/a-message-from-ceo-andrewwilson); Larry Probst, “Introducing EA’s New CEO,” The Beat, September 17, 2013 (www.ea.com/news/introducing-eas-new-ceo); John Riccitiello, “A Message From John Riccitiello,” The Beat, March 18, 2013 (www. ea.com/news/from-john); Larry Probst, “From Larry Probst: EA Leadership Transition,” The Beat, March 18, 2013 (www.ea.com/news/from-larryprobst-ea-leadership-transition); “Electronic Arts Announces Change in Executive Leadership,” Electronic Arts Inc., press release, March 18, 2013 (http://investors.ea.com/releases.cfm); Electronic Arts Inc. annual report (Form 10-K), filed May 22, 2013 (http://investors.ea.com/index.cfm); Electronic Arts Inc. proxy statement, filed June 14, 2013 (http://investors. ea.com/index.cfm); Electronic Arts Corporate Governance Guidelines, amended February 6, 2013 (http://investors.ea.com/index.cfm); Ian Sherr, “Electronic Arts CEO to Resign,” Wall Street Journal, March 18, 2013 (http:// online.wsj.com/news/articles/SB100014241278873234153045783687706 77378936); “Electronic Arts’ Endgame Playing Out,” Pacific Crest Securities, March 20, 2013 (http://online.barrons.com/article/SB5000142405274 8704538604578370541168876914.html); Nick Wingfield, “Zynga Hires Xbox Boss to Initiate Turnaround,” New York Times, July 1, 2013 (http:// bits.blogs.nytimes.com/2013/07/01/xbox-chief-is-leaving-microsoft/); James Brightman, “EA CEO Search Back to ‘Square One’ — Pachter,” GamesIndustry International, July 2, 2013 (www.gamesindustry.biz/ articles/2013-07-02-ea-ceo-search-back-to-square-one-pachter); Ian Sherr, “Electronic Arts Taps Insider Andrew Wilson as CEO,” Wall Street Journal, September 17, 2013 (http://online.wsj.com/news/articles/SB100014241278 87323981304579081473094764430); James Brightman, “EA’s Wilson ‘Makes Sense’ for CEO job – Analysts,” GamesIndustry International, September 18, 2013 (www.gamesindustry.biz/articles/2013-09-18-eas-wilson-makessense-for-ceo-job-analysts); Cliff Edwards, “Electronic Arts Names Sports Games Chief Wilson as CEO,” Bloomberg News, September 18, 2013 (www.bloomberg.com/news/2013-09-17/electronic-arts-names-sportsgames-chief-wilson-as-ceo.html); Matt Martin, “Chillingo Founders ‘Hard to Replace,’ Gibeau Could be Next Exec to Leave EA,” Videogaming247.com, January 9, 2014 (http://www.vg247.com/2014/01/09/chillingo-foundershard-to-replace-gibeau-could-be-next-exec-to-leave-ea/).

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A case of early announcement and CEO apprenticeship

EOG Resources, Inc. Summary of events In keeping with a transition plan announced nearly two years earlier, EOG Resources, Inc., announced that long-time chief executive Mark G. Papa would retire and be succeeded as CEO by president William R. (Bill) Thomas, effective July 1, 2013.

that the CEO’s retirement “does increase the possibility” of a deal. In July 2013, Forbes cited an analyst from Bernstein Research on the “likelihood that cash-rich and growth-hungry supermajors” would look to acquire “winners like EOG.”

Papa, 66, became executive chairman of the board after 13 years as CEO. The leadership transition was first announced in September 2011. At the time, Thomas was promoted from senior executive vice president of exploration to president, and Gary L. Thomas was promoted from senior executive vice president of operations to chief operating officer.

A Houston Business Journal report on local CEO turnovers occurring in 2013 cited EOG as one of two major Houstonbased energy companies that “had or announced seemingly effortless internal transition plans this year.”

“Although I will continue in my role as day-to-day hands-on chairman and CEO through 2012, I plan to gradually turn over my responsibilities to Bill Thomas six months before I retire,” Papa said at the time. “I am very comfortable transitioning my leadership role to Bill and our very experienced, long-tenured and exceptionally talented team.”

In a November 6 press release, EOG said Papa would retire both as executive chairman and as an employee at year-end, but would continue to serve as a director. As previously announced, the company said Thomas would succeed Papa as board chairman on January 1, 2014. Departing CEO (age) Mark G. Papa (66) Stated reason for departure Retirement Incoming CEO (age) William R. Thomas (60)

Thomas, a 32-year veteran at the company, joined EOG’s executive management team at corporate headquarters in February 2011. Prior to his appointment as president, he managed EOG’s Corpus Christi, Midland, and Fort Worth, Texas, areas of operations. He was credited as the primary driving force behind EOG’s horizontal shale gas drilling activities in 2004 and a leading proponent of EOG’s move into horizontal drilling to tap oil from shale formations. At 60, he is older than the average incoming S&P 500 CEO (53).

Incoming CEO qualifications President from September 2011 to July 2013. During a career spanning more than 30 years at EOG and its predecessor companies, Thomas held a number of leadership positions, including senior executive vice president of exploration and general manager of EOG’s Fort Worth, Midland, and Corpus Christi, Texas, offices.

Papa said a “key responsibility of an effective chairman is managing a seamless executive transition.…Bill and Gary both exhibit what I characterize as ‘EOG DNA,’” he said. “Reflecting EOG’s corporate culture, they are innovative, share a great sense of urgency and are dedicated to working together to make EOG an even more successful company in the future.” In a March 2013 interview with Bloomberg News, Papa called Thomas a “natural fit” to take over after being groomed for a couple of years.

Corporate governance guidelines The board approves policies and principles for CEO selection, as well as policies regarding succession in the event of an emergency or the retirement of the CEO. The guidelines note that the board “sees no need as a matter of policy” to separate the offices of chairman and CEO, based on its belief that the issue “is part of the succession planning process and that it is in the best interests of the company for the board to make a determination when it elects a new chief executive officer.”

A July 13 report by OilandGasInvestor.com described the planned transition as “without fanfare.” However, the leadership change fueled speculation by some of a possible takeover. A January 2013 Bloomberg News report quoted a Royal Bank of Canada analyst as saying

SEC filings The company’s proxy statement, filed March 27, 2013, included information about the leadership transition: “As we announced in September 2011, the board and Mr. Papa have determined that Mr. Papa will continue to serve as our CEO through June 2013, when he will be succeeded by Mr. W. Thomas, currently our president.

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Succession type Insider Joint election as board chairman No

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In addition, as we announced in August 2012, the board and Mr. Papa have determined that Mr. Papa will continue to serve as our chairman of the board and as an employee of EOG through December 2013, when he will retire…and be succeeded by Mr. W. Thomas. Accordingly, beginning in January 2014, we expect that Mr. W. Thomas will serve as both our chairman of the board and CEO, which the board believes will be the most effective leadership structure for EOG at such time.” The proxy also states that the compensation committee “incorporates risk considerations, including the risk of loss of key personnel,” as it evaluates CEO and executive performance and compensation. There was no succession planning-related disclosure in the company’s annual report, filed February 22, 2013.

Sources: EOG Resources, Inc., Corporate Governance Guidelines, January 1, 2014 (www.eogresources.com/about/governance/corpgov_guidelines. pdf); EOG Resources, Inc., annual report (Form 10-K), filed February 22, 2013 (www.eogresources.com/investors/annreport.html); EOG Resources, Inc., proxy statement, filed March 27, 2013 (www.eogresources. com/investors/annreport.html); EOG Resources, Inc., Form 8-K, filed July 1, 2013 (http://investor.shareholder.com/eogresources/sec.cfm); “EOG Resources Announces Key Officer Promotions and Timing of Current Chairman’s Retirement,” EOG Resources, Inc., press release, September 7, 2011 (http://investor.shareholder.com/eogresources/ releasedetail.cfm?ReleaseID=603904); “EOG Resources Reports Third Quarter 2013 Results; Again Increases 2013 Production Growth Targets for Crude Oil and Total Company,” EOG Resources, Inc., press release, November 6, 2013 (http://investor.shareholder.com/eogresources/ releasedetail.cfm?ReleaseID=805125); “EOG Resources CEO to Retire in 2013,” Associated Press, September 8, 2011 (www.news-journal.com/ business/eog-resources-ceo-to-retire-in/article_2039d312-da13-11e0acd8-001cc4c03286.html); Emily Wilkinson, “Energy Industry Fueled Houston CEO Turnover in 2013,” Houston Business Journal, December 20, 2013 (www.bizjournals.com/houston/print-edition/2013/12/20/ energy-industry-led-houston-ceo.html?page=all); Tara Lachapelle and Edward Klump, “EOG’s Leadership Change Fuels Deal Talk: Real M&A,” Bloomberg News, January 17, 2013 (www.bloomberg.com/ news/2013-01-17/eog-s-leadership-change-fuels-deal-talk-real-m-a.html); Christopher Helman, “How EOG Resources Became One of America’s Great Oil Companies,” Forbes, July 24, 2013 (www.forbes.com/sites/ christopherhelman/2013/07/24/how-an-enron-cast-off-became-one-ofamericas-great-oil-companies/); Edward Klump, “EOG Resources Looks for New Projects to Add to Eagle Ford,” Bloomberg News, March 7, 2013 (www. bloomberg.com/news/2013-03-07/eog-resources-looks-for-new-projectsto-add-to-eagle-ford.html); Darren Barbee, “EOG’s Papa Leaves CEO Post, Company Continues Eagle Ford Dominance,” OilandGasInvestor.com, July 17, 2013 (www.oilandgasinvestor.com/People-Industry-News/EOGs-PapaLeaves-CEO-Post-Company-Continues-Eagle-Ford-Dominance_119054).

A case of insider promotion

General Motors Company Summary of events: On December 10, 2013, General Motors Company announced that chairman and CEO Dan Akerson would step down on January 15, 2014. The board elected Mary Barra, 51, executive vice president of global product development, purchasing and supply chain, as CEO and a member of the board, ending a highprofile succession race among four internal candidates. Akerson, 65, who led the company’s return to public stock markets and the end of its ownership by the US government, pulled ahead his succession plan by several months after his wife was diagnosed with an advanced stage of cancer, according to the press release. The news was announced a day after the government sold its final shares of GM stock. “I will leave with great satisfaction in what we have accomplished, great optimism over what is ahead and great pride that we are restoring General Motors as America’s standard bearer in the global auto industry,” Akerson said in a message to employees. Citing the “strongest financial performance in our recent history,” Barra said, “I’m honored to lead the best team in the business and to keep our momentum at full speed.” While the company signaled earlier in the year that it was changing Akerson’s pay to allow him to retire within three years, the announcement came as a surprise to some, Bloomberg News reported, citing a regulatory filing that showed Akerson’s compensation mix was changed in 2012 to accommodate the possibility that he might leave before his long-term restricted stock vested. A 33-year veteran of the company, Barra held a series of manufacturing, engineering, and senior staff positions at GM. She reportedly beat out Mark Reuss, executive vice president and president of North American operations, Dan Ammann, executive vice president and chief financial officer, and Steve Girsky, vice chairman of corporate strategy, business development and global product planning, for the top job. The appointment also made her the first woman to lead a global automaker. Even before he announced his planned to step down, Akerson dropped a hint about his potential successor, when he called it “inevitable” that a woman would eventually serve as CEO of a major automaker during remarks at a September 25 automotive industry event, CNBC reported.

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Barra’s appointment was accompanied by other internal management changes. GM split its CEO and chairman positions, naming Theodore (Tim) Solso, 66, to succeed Akerson as chairman. Solso, former chairman and CEO of Cummins Inc., served on GM’s board since June 2012. Ammann, 41, was named president, responsible for managing the company’s regional operations around the world, and head of the Cadillac and Chevrolet brands and GM Financial. GM said he would remain CFO at least through the release of the company’s fourth quarter and full-year 2013 results in early February 2014, and his replacement would be named later. Reuss assumed Barra’s role in product development. Alan Batey, senior vice president, global Chevrolet and US sales and marketing, replaced Reuss as EVP and president of North America operations. GM said Girsky, 51, would serve in a senior advisor role until leaving the company in April 2014, but would remain on the board. Akerson was “grooming possible successors,” and preferred an internal successor because it would be “less disruptive,” according to Bloomberg News, which reported that the process took several months, and once the four finalists were chosen, GM brought in coaches to work them on their weaknesses. “We wanted to make sure that the board had a perspective independent of mine,” Akerson said. “We had a process and, quite frankly, in my mind it would kind of come to a head, a culmination in the mid-spring and summertime of next year.” Investors “weren’t fazed by the unexpected timing of the moves,” according to the Detroit Free Press, which reported that GM stock, which hit an all-time high that week, fell 13 cents to $40.77 after the announcement. A Form 8-KA, filed on January 17, 2014, disclosed that Akerson and Girsky would serve as senior advisors on an interim basis for less than a year. The filing also reported that Charles K. Stevens was elected as EVP and CFO, effective January 15. Stevens, a GM employee since 1983, most recently served as CFO of GM North America. The internal succession race at GM spurred speculation that executives like Reuss “might jump ship for a CEO spot elsewhere,” according to the Wall Street Journal, which reported that “high-profile executives passed over for the top job” sometimes resign.

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Departing CEO (age) Dan Akerson (65) Stated reason for departure Resignation Incoming CEO (age) Mary Barra (51) Incoming CEO qualifications Executive vice president, global product development, purchasing and supply chain since August 2013, and senior vice president, global product development, since February 2011, responsible for the design, engineering, program management and quality of GM vehicles around the world. Member of the GM executive operations committee and the Adam Opel AG supervisory board. Previously served as vice president of global human resources; vice president of global manufacturing engineering; plant manager for Detroit Hamtramck Assembly; executive director of competitive operations engineering; and in several engineering and staff positions. Joined GM in 1980 as a General Motors Institute (Kettering University) co-op student at the Pontiac Motor Division. Serves on the board of General Dynamics Corp. Succession type Insider Joint election as board chairman No Corporate governance guidelines The corporate governance guidelines describe succession planning as a “major responsibility of the board.” At least annually, the executive compensation committee, in consultation with the CEO, reviews and advises the board regarding senior executive succession planning, addressing the policies and principles for CEO succession and performance review and policies regarding succession in the event of emergency or retirement. The chairman or the lead director (if the chairman is not independent) ensures that the board discusses CEO succession planning at least annually. Non-management directors review CEO performance, compensation and succession planning, among other governance matters, during executive sessions. SEC filings According to the company’s proxy statement, filed April 25, 2013, the board has responsibility for overseeing succession planning for management. The executive compensation committee considers risks related to executive recruitment, development, retention, and succession planning, among other things. The proxy also repeats the language contained in the governance guidelines (above) about succession planning. There was no succession planning-related disclosure in the company’s annual report, filed February 15, 2013.

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Sources: General Motors Company annual report (Form 10-K), filed February 15, 2013 (www.gm.com/company/investors/sec-filings.html); General Motors Company Board of Directors Corporate Governance Guidelines, revised November 19, 2013 (www.gm.com/content/dam/ gmcom/COMPANY/Investors/Corporate_Governance/PDFs/Corporate_ Governance_Guidelines.pdf); General Motors proxy statement, filed April 25, 2013 (www.gm.com/company/investors/sec-filings.html); General Motors Company Form 8K-A, filed January 17, 2014 (www.gm.com/ company/investors/sec-filings.html) “Dan Akerson to Retire as GM CEO in January 2014,” General Motors Company, press release, December 10, 2013 (http://media.gm.com/content/media/us/en/gm/news.detail. html/content/Pages/news/emergency_news/2013/1210-gm-execs.html) “About GM: Mary T. Barra,” General Motors Company website, accessed January 20, 2014 (www.gm.com/company/aboutGM/GM_Corporate_ Officers/mary_barra.html); Dale Buss, “GM Taps Mary Barra Next CEO; Will Be First Woman Car Chief,” Forbes, December 10, 2013 (www.forbes. com/sites/dalebuss/2013/12/10/gm-taps-mary-barra-next-ceo-will-befirst-woman-car-chief/); Bill Saporito, “Under Barra, Expect a More Radical GM,” Time, December 10, 2013 (http://business.time.com/2013/12/10/ under-barra-expect-a-more-radical-gm/); Jeff Bennett, “A New Game of Thrones at General Motors,” Wall Street Journal, October 2, 2013 (http:// online.wsj.com/news/articles/SB1000142412788732334240457908 1323458693420); Tim Higgins, “CEO Akerson Led GM from IPO to End of ‘Government Motors,’” Bloomberg News, December 11, 2013 (www. bloomberg.com/news/2013-12-10/akerson-led-gm-from-ipo-to-end-ofgovernment-motors-.html); Paul A. Eisenstein, “GM’s Akerson: Female CEO ‘Inevitable’ at Big Three Automaker,” CNBC, September 26, 2013 (www. cnbc.com/id/101065324); Nate Bomey, “GM CEO Dan Akerson Retiring; Mary Barra to Become First Female CEO of Major Automaker,” Detroit Free Press, December 10, 2013 (www.freep.com/article/20131210/ BUSINESS0101/312100068/gm-CEO-Dan-Akerson-GM-Mary-Barra); Joann S. Lublin, “Companies Grapple With Passed-Over CEO Candidates,” Wall Street Journal, December 11, 2013 (http://online.wsj.com/news/articles/ SB10001424052702304202204579252430518012324).

A case of dismissal and outside appointment

HCP, Inc. Summary of events: On October 3, 2013, HCP, Inc., suddenly announced that James F. Flaherty III was terminated as chairman, president, and CEO, and real estate executive Lauralee Martin, 62, was elected as president and CEO by its board.

“The board believes Lauralee is the best choice to provide new leadership for the company and to execute its strategies to enhance long-term value for shareholders,” McKee said in a statement. “Jay was a substantial and successful force behind HCP’s considerable growth for more than a decade, and we wish him continued success.” “Martin…understands HCP’s business, its executive talent and its potential for growth. And she has a track record of delivering value for shareholders,” McKee added. Martin said HCP is “experiencing positive momentum, and achieving consistent financial results. I look forward to working with HCP’s strong management team to continue implementing the company’s strategies to capitalize on growth opportunities.” HCP also said chairman emeritus Kenneth B. Roath, 77, had informed the board in late September of his decision to step down. Roath was the company’s first president in 1985, before it went public, and served as CEO and chairman from 1988 to 2003. During an October 3 conference call with analysts, McKee said Roath had been signaling his retirement for some time, and when the board started to consider the leadership transition, “He [Roath] thought it was the proper time for him to go ahead and transition off of the board.” In response to an analyst question about the change, McKee said, “Over a number of months and with due deliberation, the board realized that it had lost confidence in Jay’s leadership and his leadership style. At the same time, we had sitting among us on the board a person who checked all the boxes…as we looked at leadership.”

The company, which said Flaherty would remain as a board member, elected lead director Michael D. McKee, 67, as nonexecutive chairman. In a press release, the board said that splitting the roles would enhance the company’s “governance strength.”

Asked if Flaherty’s departure was related to stock performance, McKee said the issues were “within the boardroom. It was not stock performance or business performance.” He added, “From the perspective of the board, we felt this was actually a good time to make a transition because of the current strength of the company.”

Martin, CEO of the Americas division of commercial real estate firm Jones Lang LaSalle, Inc., served as a director of HCP for five years and remains on the board. Her appointment as CEO made her only the third chief executive in the 28-year history of the S&P 500 healthcare real estate investment trust. According to a Form 8-K, filed on October 3, the company gave her a three-year contract. McKee, CEO of commercial real estate advisory company Bentall Kennedy (US), has been an HCP board member for 26 years.

Shares of HCP dropped 4.7 percent to $39.82 upon news of the move. Many analysts were surprised by the sudden CEO change, according to Commercial Property Executive, which cited a report by Citi Research analysts that stated: “We do not question that Ms. Martin ‘checks the required boxes’ and are impressed with her career, reputation and track record, but the risk of uncertainty to partners, lenders and investors in a sector and business that are so capital intensive could be cause for longer-term concern for shares.”

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A research note by an analyst at RBC Capital Markets described the management changes as “abrupt” and called the transition “likely a work in progress,” according to a Bloomberg News report. As disclosed in a Form 8-K, filed on October 29, Flaherty wrote in an October 28, 2013, letter that he resigned from the board because his “vision for the direction of the company has differed in the past and still differs today from that of the remaining board members.” Martin joined Jones Lang LaSalle as chief financial officer in 2002, and took on the additional position of chief operating officer in 2005. She joined the board later that year. She served as a member of the Jones Lang LaSalle global executive committee and chair of its global operating committee. In January 2013, she gave up her COO duties (and later her CFO and board duties) to become CEO of the Americas business segment. Previously, she served as executive vice president and CFO of publicly traded commercial finance company Heller Financial, Inc., from 1996 to 2001, helping to take it public in 1998. Earlier, she served as senior group president responsible for Heller Financial’s real estate, equipment financing and small business lending groups, and president of its real estate group. She was a member of Heller Financial’s board from 1991 to 1998. Martin also spent nine years at General Electric Credit Corp., as president of General Electric Mortgage and manager of construction lending. “Lauralee’s resume is impressive, but she is unproven in this new role as CEO of HCP, so for a period of time I think the uncertainty will weigh on HCP’s stock price,” Green Street Advisors analyst Jeff Theiler told the Wall Street Journal. On October 29, HCP, Inc., reported that third-quarter earnings increased 19 percent and raised its full-year outlook for funds from operations, a key performance measure for REITs, by a penny, according to the Wall Street Journal. Departing CEO (age) James Flaherty (55) Stated reason for departure Termination Incoming CEO (age) Lauralee Martin (62) Incoming CEO qualifications HCP board member for five years. CEO of the Americas division of Jones Lang LaSalle, Inc. Previously served as CFO and COO and a member of the board. Previously served as a member

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of the Jones Lang LaSalle global executive committee and chair of the global operating committee. From 1996 to 2001, served as executive vice president and CFO of publicly traded commercial finance company Heller Financial, Inc., helping to take it public in 1998. Prior posts as senior group president of Heller Financial’s real estate, equipment financing, and small business lending groups, and president of its real estate group. Heller Financial board member from 1991-98. Previously spent nine years with General Electric Credit Corp., in its real estate operations, including president of General Electric Mortgage and manager of construction lending. Succession type Outside hire Joint election as board chairman No Corporate governance guidelines At least annually, the CEO addresses succession planning with the board and reviews a succession plan addressing the policies and principles for selecting a successor. SEC filings The company’s proxy statement refers readers to its corporate governance guidelines for information on succession planning and other governance topics. There was no disclosure related to succession planning in the company’s annual report, filed February 12, 2013.

Sources: HCP, Inc., proxy statement, filed March 15, 2013 (http:// ir.hcpi.com/phoenix.zhtml?c=67541&p=irol-IRHome); HCP, Inc., annual report (Form 10-K), filed February 12, 2013 (http://ir.hcpi.com/phoenix. zhtml?c=67541&p=irol-IRHome); HCP, Inc., Corporate Governance Guidelines, as amended October 27, 2011 (http://ir.hcpi.com/phoenix. zhtml?c=67541&p=irol-govguidelines); HCP, Inc., Form 8-K, filed October 3, 2013 (http://ir.hcpi.com/phoenix.zhtml?c=67541&p=irolsec); HCP, Inc., Form 8-K, filed October 29, 2013 (http://ir.hcpi.com/ phoenix.zhtml?c=67541&p=irol-IRHome) “Jones Lang LaSalle’s Martin Named New CEO of HCP; McKee Elevated to Non-Executive Board Chairman,” HCP, Inc., press release, October 3, 2013 (http://ir.hcpi.com/ phoenix.zhtml?c=67541&p=irol-newsArticle&ID=1861222&highlight); “HCP Announcement,” webcast, October 3, 2013, last accessed January 21, 2014 (http://ir.hcpi.com/phoenix.zhtml?c=67541&p=irolEventDetails&EventId=5033346); Gail Kalinoski, “ HCP Shakeup Takes Analysts by Surprise,” Commercial Property Executive, October 4, 2013 (www.cpexecutive.com/property-types/seniors-housing/hcp-shakeuptakes-analysts-by-surprise/); Elizabeth Dexheimer and Brian Louis, “HCP Names Jones Lang’s Martin CEO as Flaherty Is Fired,” Bloomberg News, October 3, 2013 (www.bloomberg.com/news/2013-10-03/hcp-namesjones-lang-s-martin-ceo-as-flaherty-is-fired.html); Nathalie Tadena, “HCP Fires Flaherty as CEO, Citing Leadership Concerns - 2nd Update,” Wall Street Journal, October 3, 2013 (http://online.wsj.com/article/BT-CO20131003-709214.html?mod=WSJ_qtoverview_wsjlatest); Nathalie Tadena, “HCP 3rd-Quarter Profit Rises 19 Percent, Boosts Full-Year FFO View,” Wall Street Journal, October 29, 2013 (http://online.wsj.com/article/BT-CO20131029-706211.html?mod=WSJ_qtoverview_wsjlatest).

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A case of departure amid poor performance

J.C. Penney Company, Inc. Summary of events On April 8, 2013, the board of J.C. Penney Company, Inc., (JCP) announced that former chief executive Myron E. (Mike) Ullman III rejoined the company as CEO and a member of the board, succeeding Ron Johnson, the high-profile former Apple executive hired by JCP less than 18 months earlier to overhaul its stores. The press release said Johnson “is stepping down and leaving the company.” Ullman served as J.C. Penny’s CEO from 2004 until Johnson, formerly head of retail at Apple, replaced him in November 2011. In a statement, Ullman said his plan was to “immediately engage with the company’s customers, team members, vendors and shareholders, to understand their needs, views and insights. With that knowledge, I will work with the leadership team and the board to develop and clearly articulate a game plan to establish a foundation for future success.” “On behalf of the board of directors, we would like to thank Ron Johnson for his contributions…and wish him the best in his future endeavors,” said Thomas Engibous, chairman of the board. “We are fortunate to have someone with Mike’s proven experience and leadership abilities to take the reins at the company at this important time. He is well-positioned to quickly analyze the situation jcpenney faces and take steps to improve the company’s performance.” Ullman was pushed out as CEO after Pershing Square Capital Management, the hedge fund led by William A. Ackman, bought 16.5 percent of the retailer and Ackman gained a seat on the board. Ackman recruited Johnson, “a rock star leader who then proceeded to fail in a spectacular way,” according to the New York Times. Following Ackman’s plan for transforming J.C. Penney, Johnson quickly did away with promotions and discounts and set up mini shops within its stores. The strategy bombed and drove customers away. In February 2013, Johnson admitted “big mistakes” in his turnaround effort, as J.C. Penney reported a much larger than expected fourth-quarter loss of $2.51 a share. The Times reported that, in the year since Johnson introduced the new strategy, JCP lost $4.28 billion in sales and its stock fell about 55 percent.

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In early April, when a regulatory filing revealed that Johnson’s pay was slashed by nearly 97 percent to $1.9 million, press reports predicted that Johnson would be given “at least another couple of quarters to turn around the company.” Johnson was fired days later, and Ullman returned. The move to bring back Ullman was described as “curious” by the New York Times, which reported, “Most of the senior employees that he had assembled at Penney either left or were dismissed by Mr. Johnson. And it was dissatisfaction with where Mr. Ullman was taking the company that led Mr. Ackman to look for another leader in the first place.” According to the Wall Street Journal, the board’s decision ended a “brief and turbulent career in the corner office for Mr. Johnson. He arrived at Penney to great fanfare in November 2011, but lost the confidence of directors and investors after he rolled out an ambitious plan to reinvent Penney’s stores without following the usual retail practice of testing the changes first. Sales tanked, with no sign of improvement.” In August, a public dispute erupted between Ackman and the other directors over the company’s leadership. In a letter sent to fellow directors and simultaneously publicly disclosed, Ackman called for the departures of Ullman and Engibous. Engibous fired back in an August 8 letter, stating, “The company has made significant progress since Myron E. (Mike) Ullman III returned as CEO four months ago, under unusually difficult circumstances. Since then, Mike has led significant actions to correct the errors of previous management and to return the company to sustainable, profitable growth.” “Mike is the right person to rebuild jcpenney by stabilizing its operations, restoring confidence among our vendors, and getting customers back in our stores,” Engibous wrote. “He has the overwhelming support of the board of directors, and we are confident the company is in good hands.” The letter noted that, when Ullman returned, “it was understood that there would be an effort to rebuild the management team, including a search process to identify his successor. The CEO search process, which began in earnest three weeks ago, will be careful and deliberate to ensure we find the right long-term leader for jcpenney.” In the letter, Engibous called Ackman’s actions “disruptive and counterproductive.”

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On August 12, 2013, Ackman resigned from the board, which elected Ronald W. Tysoe, former vice chairman of Federated Department Stores Inc. (now Macy’s, Inc.), as a member, and reaffirmed its “overwhelming support” for Ullman and for Engibous. Ackman sold his stake in J.C. Penney later that month. Prior to serving as JCP chairman and CEO through November 2011 and executive chairman through January 2012, Ullman served as directeur general of LVMH Moët Hennessy Louis Vuitton in Paris; chairman and CEO of travel retailer DFS Group Limited, and chairman and CEO of R.H. Macy & Co., Inc. His earlier retail experience included leading Wharf Holdings Ltd. in Hong Kong and posts at Federated Department Stores. He also previously served as a White House Fellow in the Reagan Administration, vice president of business affairs at the University of Cincinnati, and as an international account manager for IBM Corp. Note: J.C. Penney was not the only S&P 500 company to rehire its former CEO in 2013: The Procter & Gamble Company rehired A.G. Lafley to replace Bob McDonald (see case study, p. 50).

Departing CEO (age) Ron Johnson (54) Stated reason for departure Resignation Incoming CEO (age) Myron E. (Mike) Ullman III (66) Incoming CEO qualifications Served as CEO from 2004 to 2011 and as executive chairman from 2004 through January 2012. Previously served as directeur general of LVMH Moët Hennessy Louis Vuitton in Paris, chairman and CEO of travel retailer DFS Group Limited, and chairman and CEO of R.H. Macy & Co., Inc. Earlier retail experience included leading Wharf Holdings Ltd. in Hong Kong and posts at Federated Department Stores. Board member of Starbucks Corp., Saks Inc., and the COFRA Group. Deputy chairman of the Federal Reserve Bank of Dallas. Advisor to the board of directors of the Retail Industry Leaders Association. Chairman of the board of Mercy Ships International. Succession type Insider Joint election as board chairman No

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Corporate governance guidelines The board’s responsi­ bilities include overseeing and regularly evaluating succession planning. At least annually, the CEO reports to an executive session of the board on succession planning, covering the entire subject of management development, including policies and principles for CEO selection and policies regarding succession in the event of an emergency or the resignation, incapacity, or retirement of the CEO. SEC filings The company’s proxy statement, filed April 2, 2013, notes that management succession and CEO evaluation, along with other governance matters, are covered in its corporate governance guidelines, detailed above. The proxy also states that reviewing succession plans for key company executives, including the CEO, is among the responsibilities of the human resources and compensation committee. There was no succession planning-related disclosure in the company’s annual report, filed March 20, 2013.

Sources: J.C. Penney Company, Inc., annual report (Form 10-k), filed March 20, 2013 (http://ir.jcpenney.com/phoenix.zhtml?c=70528&p=irol-irhome); J.C. Penney Company, Inc., proxy statement, filed April 2, 2013 (http:// ir.jcpenney.com/phoenix.zhtml?c=70528&p=irol-irhome); J.C. Penney Company, Inc., Corporate Governance Guidelines, revised September 2013 (http://ir.jcpenney.com/phoenix.zhtml?c=70528&p=irol-govhighlights); “Jcpenney Appoints Myron E. (Mike) Ullman, III Chief Executive Officer, Succeeding Ron Johnson,” J.C. Penney Company, Inc., press release, April 8, 2013 (http://ir.jcpenney.com/phoenix.zhtml?c=70528&p=irol-new sCompanyArticle&ID=1804405&highlight); “J. C. Penney Announces Changes to Board of Directors,” J.C. Penney Company, Inc., press release, August 13, 2013 (http://ir.jcpenney.com/phoenix.zhtml?c=70528&p=irolnewsArticle&ID=1847098&highlight); “Statement of jcpenney’s Board of Directors from Chairman Thomas Engibous,” J.C. Penney Co. Inc., August 8, 2013 (http://ir.jcpenney.com/mobile.view?c=70528&v=203&d =1&id=1846436); “Bill Ackman’s August 9 Letter to JC Penney’s Board,” CNBC, August 9, 2013 (www.cnbc.com/id/100952339); Stephanie Clifford, “J.C. Penney Slashes Pay of Its Chief,” New York Times, April 2, 2013 (www. nytimes.com/2013/04/03/business/jc-penney-slashes-pay-for-chief. html) Joann S. Lublin, “Penney CEO Out, Old Boss Back In,” Wall Street Journal, April 8, 2013 (http://online.wsj.com/news/articles/SB100014241 27887324504704578411031708241800); Stephanie Clifford, “J.C. Penney Ousts Chief of 17 Months,” New York Times, April 8, 2013 (www.nytimes. com/2013/04/09/business/ron-johnson-out-as-jc-penney-chief.html); Stephanie Clifford, “Chief Talks of Mistakes and Big Loss at J.C. Penney,” New York Times, February 27, 2013 (www.nytimes.com/2013/02/28/ business/jc-penneys-chief-says-his-mistakes-led-to-big-loss.html?_r=1&); Steven M. Davidoff, “As J.C. Penney Flounders, a Lack of Control Becomes Evident,” New York Times, October 1, 2013 (http://dealbook.nytimes. com/2013/10/01/as-j-c-penney-flounders-a-lack-of-control-becomesevident/); “Ackman Pushes J.C. Penney to Speed up CEO Search,” Reuters, August 8, 2013 (www.reuters.com/article/2013/08/08/us-jcpenneyackman-idUSBRE9770WA20130808); Michael J. de la Merced, “His Links Severed, Ackman Sells Stake in J.C. Penney,” New York Times, August 26, 2013 (http://dealbook.nytimes.com/2013/08/26/ackman-moves-to-sellstake-in-j-c-penney/).

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A case of planned retirement and early announcement

PetSmart, Inc. Summary of events On June 14, 2013, in keeping with a succession plan announced nearly six months earlier, David K. Lenhardt took over as CEO of PetSmart, Inc., replacing Robert Moran. PetSmart had announced on January 22, 2013, that president and chief operating officer Lenhardt, 43, would assume the role of CEO, effective June 14, 2013, following the annual meeting of stockholders, and would be simultaneously appointed to the board. At the time, the company said that chairman and CEO Moran, 62, would be appointed executive chairman. “During the last several years, we have focused on and invested in strategic succession planning, and as a result, we’ve assembled what I believe is one of the best leadership teams in retail,” Moran said at the time of the January announcement. “Looking ahead, this planned management succession will allow us to remain focused on executing the strategies that have been key to our success over the past several years. David is the perfect leader with the experience, vision and ability to continue to lead PetSmart through the current economic challenges and toward a strong and sustainable future.” On June 11, two days before the meeting, the company announced that Moran would step down from the board, and named Gregory P. Josefowicz, 60, as chairman. Josefowicz, a PetSmart board member since 2004, had served as lead director since 2006. “David’s transition to the CEO role has been exceptionally smooth,” Moran said. “As such, I think it is in the best interests of the company that I step aside and let David put his own stamp on PetSmart. PetSmart is well-positioned, and I am confident in the company’s future under David’s direction and leadership.” “Both the board and Bob agree that now is the right time for Bob to step down from the board and to move forward with the company’s next phase of growth and development,” Josefowicz said in a statement. The company’s shares closed at $68.19 on the day of the announcement, up slightly from $64.49 a day earlier, and were unchanged after hours.

Lenhardt joined PetSmart in October 2000 as senior vice president (SVP) of services, strategic planning and business development. He was appointed SVP of store operations and services in 2007, and, in 2009, became SVP of store operations and human resources. In January 2011, he became executive vice president (EVP), assuming additional responsibility for information systems. He was appointed president and COO in 2012. Prior to joining PetSmart, Lenhardt worked at Bain & Company, Inc., and in Merrill Lynch & Co.’s investment banking division. Moran joined PetSmart in 1999 as president of North American stores. He was appointed president and COO in 2001, and, in 2009, he was named president and CEO. In 2012, he was also appointed chairman of the board. As part of the succession plan announced in January, Joseph O’Leary, EVP of merchandising, marketing, supply chain and strategic planning, assumed the posts of president and COO. O’Leary, 54, joined PetSmart in September 2006 as SVP of supply chain, and became SVP of merchandising and supply chain in October 2008. In 2011, he was promoted to EVP of merchandising, marketing, supply chain and strategic planning. The management change also came on the heels of the previously announced departure of the company’s chief financial officer. On November 14, 2012, PetSmart disclosed in a Form 8-K that EVP and CFO Lawrence “Chip” Molloy would resign on June 30, 2013, but would remain in a special advisor role through March 31, 2014. On May 13, 2013, PetSmart announced Carrie W. Teffner as Malloy’s replacement, and said Molloy would relinquish the EVP and CFO roles, effective June 3, 2013, but would remain a special advisor to the company. During an August 21 earnings call with analysts, Lenhardt said, “I’m happy to report that the management transition has been complete for more than two months now, and I speak for the entire management team when I say that it was a seamless transition. We have a strong and experienced leadership team in place and we’re all aligned in moving the business forward.” Departing CEO (age) Robert F. Moran (62) Stated reason for departure Retirement Incoming CEO (age) David K. Lenhardt (43)

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Incoming CEO qualifications Joined PetSmart in October 2000 as SVP of services, strategic planning and business development. Appointed SVP of store operations and services in February 2007, and, in February 2009, became SVP of store operations and human resources. Named executive vice president, assuming additional responsibility for information systems, in January 2011. Appointed president and COO in January 2012. Previously at Bain & Company, Inc., and at Merrill Lynch & Co. in the investment banking division. Succession type Insider Joint election as board chairman No Corporate governance guidelines On an annual basis, the corporate governance and nominating committee reviews succession planning with respect to the CEO, other executive officers and certain members of senior management. During this review, the committee “strives to ensure that we have the appropriate talent development and recruitment plans necessary to execute on our strategic vision and build stockholder value.” SEC filings The proxy statement, filed May 3, 2013, states that the corporate governance and nominating committee assists the board with succession planning, among other duties. That role includes reviewing the succession planning practices and procedures of PetSmart and providing the board with a recommendation relating to the succession of the CEO in the event his employment terminates for any reason. The proxy also notes that, while Moran held both the chairman and CEO posts, as part of its succession plan, when Lenhardt assumes the CEO position, Moran will remain as chairman. The company’s annual report (Form 10-K), filed March 28, 2013, doesn’t detail the board’s succession planning process, but discusses the leadership transition: “As we previously announced, Mr. Lenhardt will succeed Mr. Moran as our Chief Executive Officer effective as of the close of our 2013 annual meeting of stockholders. In connection with this appointment, the PetSmart board of directors expects to elect Mr. Lenhardt to the board effective as of the close of our 2013 annual meeting of stockholders.”

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Sources: PetSmart, Inc., Corporate Governance Guidelines, approved September 25, 2013 (http://phx.corporate-ir.net/phoenix. zhtml?c=93506&p=irol-irhome); PetSmart, Inc., annual report (Form 10-K) filed March 28, 2013 (http://phx.corporate-ir.net/phoenix. zhtml?c=93506&p=irol-sec); PetSmart Inc. proxy statement, filed May 3, 2013 (http://phx.corporate-ir.net/phoenix.zhtml?c=93506&p=irolsec); PetSmart, Inc., Form 8-K, filed May 13, 2013; PetSmart, Inc., Form 8-K, filed June 11, 2013; PetSmart, Inc., Form 8-K, filed November 14, 2012 (http://phx.corporate-ir.net/phoenix.zhtml?c=93506&p=irol-sec); “PetSmart Provides Update Regarding Board of Directors,” PetSmart, Inc., press release, June 11, 2013 (http://phx.corporate-ir.net/phoenix. zhtml?c=196265&p=irol-newsArticle&ID=1828970&highlight=); “PetSmart Announces Planned Management Succession,” PetSmart, Inc., press release, January 22, 2013 (http://phx.corporate-ir.net/phoenix. zhtml?c=196265&p=irol-newsArticle&ID=1776753&highlight=); “PetSmart Management Discusses Q2 2013 Results,” earnings call transcript, Seeking Alpha, August 21, 2013 (http://seekingalpha.com/article/1649402petsmart-management-discusses-q2-2013-results-earnings-call-transcript); Kristin Jones, “PetSmart Outgoing CEO Bob Moran to Step Down From Board,” Wall Street Journal, June 11, 2013 (http://online.wsj.com/article/ BT-CO-20130611-710459.html?mod=WSJ_qtoverview_wsjlatest); Debbie Cai, “PetSmart Names Lenhardt to CEO, Moran to Remain as Chairman,” Wall Street Journal, January 22, 2013 (http://online.wsj.com/article/BT-CO20130122-713246.html).

A case of sudden retirement

The Procter & Gamble Company Summary of events On May 23, 2013, The Procter & Gamble Company (P&G) announced that former CEO A.G. Lafley would return, effectively immediately, as chairman, president and CEO, to succeed Robert McDonald, his hand-picked successor, who would retire on June 30, after 33 years with the company. Lafley, 65, who was also named chairman, had joined Procter & Gamble in 1977, rising through its ranks to serve as president and CEO from 2000 until he retired in 2009, when McDonald took over. McDonald, who joined P&G in 1980, served as president and CEO from 2009 to 2013. “It has been a privilege to work with the people of Procter & Gamble to serve consumers around the world,” MacDonald said in a statement. “I’m proud of what we have accomplished together, and I am confident in the company’s future.” “A.G.’s track record and his depth of experience at P&G make him uniquely qualified to lead the company forward at this important time,” said Jim McNerney, P&G’s presiding director. “The board expects A.G. to further improve results, implement the current productivity plan, and facilitate an ongoing succession process. The board is confident that he will continue improving P&G’s performance.”

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McNerney thanked McDonald for his service, stating, “Under his leadership, the company expanded its business in developing markets, built a strong innovation pipeline, and has made substantial progress implementing a $10 billion cost savings and productivity program.”

noted that part of his role was to identify and groom the next CEO, said analysts “have reason to think one of the seven executives [promoted as part of the reorganization] will succeed Lafley in the next few years. All have been with the company for decades.”

Lafley also thanked McDonald, adding, “I am looking forward to working with P&G’s outstanding leadership team to continue to improve the company’s performance. I am confident that we will deliver strong innovation, productivity and growth to win with consumers, customers and shareholders.”

Bloomberg Businessweek noted that every CEO in the company’s 176-year history has either been an internally groomed candidate or a relative of co-founders William Procter and James Gamble. A P&G spokesman told Bloomberg Businessweek that Lafley “has no specific timetable for how long he’ll remain CEO. He has said this is criteria-driven, not schedule-driven. When he and the board believe he’s achieved the objectives…then I think they’ll reconsider it.”

The former CEO’s return “was welcomed by the stock market as P&G shares jumped nearly 4 percent” upon the news, according to the Financial Times, which reported that McDonald’s “hasty departure” had followed a period of “weak performance that has disappointed investors.” On a call with analysts, P&G chief financial officer Jon Moeller said McDonald’s departure was “not indicative of any bigger problem or financial issue” and wouldn’t result in a dramatic change in the company’s strategy or priorities, Financial Times reported. A memo written by McDonald to vendors said he was stepping down because the spotlight on him was detracting from the company, according to a Wall Street Journal report. Although abrupt, the leadership change wasn’t unexpected. Press reports noted that activist investor William Ackman, CEO of hedge fund Pershing Square Capital Management, which took a $1.8 billion stake in P&G in 2012, had been agitating for a CEO change, following a string of reductions to P&G’s profit forecasts. Citing people familiar with the matter, the Wall Street Journal reported that Ackman, in a September meeting with McDonald and two P&G board members, had urged the board to strip McDonald of the chairman job and search for a new CEO. Upon news of Lafley’s return, CNBC reported that Ackman had released a statement saying, “This was the right move by the board.” Less than two weeks after Lafley’s return, P&G announced that it would regroup its global business units into four industry-based sectors, each led by a group president. As Bloomberg Businessweek reported, “Lafley appears to be lining up his replacement. In the first big move since P&G’s board summoned its former CEO out of retirement…Lafley announced a major reorganization to focus on four main business areas.…” The report, which

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Advertising Age noted that Lafley’s return “creates new doubts about succession planning at a company that once prided itself on orderly transitions and grooming enough leaders to provide for itself and much of the rest of corporate America. P&G said Mr. Lafley would participate in ‘an ongoing succession process,’ but it is obvious that no internal candidate has been found.” Note: P&G wasn’t the only S&P 500 company to rehire its former CEO in 2013: J.C. Penney rehired former CEO Myron (Mike) Ullman III in April (see case study, p. 47).

Departing CEO (age) Robert (Bob) McDonald (60) Stated reason for departure Retirement Incoming CEO (age) A.G. Lafley (66) Incoming CEO qualifications Served as P&G president and CEO from 2000 until 2009, and as chairman from 2002 until 2010. Succession type Insider Joint election as board chairman Yes Corporate governance guidelines The board oversees succession planning for the CEO position. At least once per year, the nonemployee members of the board meet to review the performance and succession plan for the CEO and executive continuity plans for other principal officers (the meetings may be separate). Succession planning should include policies and principles for CEO selection and performance review, as well as policies regarding succession in the event of an emergency or the retirement of the CEO.

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SEC filings The company’s proxy statement, filed August 23, 2013, states that the board has overall responsibility for leadership succession for the company’s most senior officers and reviews succession plans on an ongoing basis. The risk factors section of the company’s annual report, filed August 8, 2013, mentioned the CEO transition, but did not include any other succession planning-related disclosure. Sources: The Procter & Gamble Company Corporate Governance Guidelines (www.pg.com/en_US/downloads/company/governance/ Corporate_Governance_Guidelines.pdf); The Procter & Gamble Company proxy statement, filed August 23, 2013; The Procter & Gamble Company annual report (Form 10-K), filed August 8, 2013 (www.pginvestor.com/ corporateprofile.aspx?iid=4004124); “A.G. Lafley Rejoins Procter & Gamble as Chairman, President and Chief Executive Officer,” The Procter & Gamble Company press release, May 23, 2013 (http://news.pg.com/press-release/ pg-corporate-announcements/ag-lafley-rejoins-procter-gamble-chairmanpresident-and-chi); “Procter & Gamble Announces Organization Changes,” The Procter & Gamble Company press release, June 5, 2013 (http://news. pg.com/press-release/pg-corporate-announcements/procter-gambleannounces-organization-changes); Justin Bachman, “Is There a Future CEO in P&G’s Reshuffled Ranks?” Bloomberg Businessweek, June 6, 2013; Ellen Byron and Joann S. Lublin, “Embattled P&G Chief Replaced By Old Boss,” Wall Street Journal, May 23, 2013 (http://online.wsj.com/news/ articles/SB10001424127887324659404578501673304380076); “P&G CEO McDonald Retiring Due to ‘Distraction’ of Critics’ Attention,” CNBC. com and Reuters, May 24, 2013 (www.cnbc.com/id/100757475); Jack Neff, “What’s on Lafley’s List This Time Around at P&G,” Advertising Age, May 26, 2013 (http://adage.com/article/news/lafley-s-list-time-p-g/241701/).

A case of CEO apprenticeship

Time Warner Cable Inc. Summary of events In July 2013, Time Warner Cable Inc. (TWC) announced that chairman and CEO Glenn A. Britt, 64, would retire at the end of the year, and named its board-elected president and chief operating officer Robert D. Marcus to succeed Britt as chairman and CEO, effective January 1, 2014. Marcus, 48, was elected to the board, effective immediately. The company said Britt would remain on the board in a nonexecutive role upon his retirement. The two worked together during TWC’s 2009 spinoff from Time Warner Inc., according to the company’s announcement. TWC lead director N.J. Nicholas Jr. stated, “The board is confident that Rob is the right person to lead the company into the future. He has the vision, financial prowess, operating acumen and unrelenting drive that make him the ideal CEO. The board is also very pleased that Glenn will remain chairman and CEO through 2013 as part of our thoughtful and seamless transition process.”

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“I love this business, but I’m ready to retire knowing Rob is ready to lead,” Britt said. “I have worked with Rob for more than 20 years in his various roles, and worked side by side with him for nearly eight years as a member of the TWC senior management team. He is an accomplished executive, a strong strategic decision maker, and has a deep understanding of our company, our industry and what it will take to lead TWC into the future.” “I am honored to succeed Glenn when he retires at the end of the year,” said Marcus. “Time Warner Cable is a great company, and I have tremendous respect for the commitment, intellect and inspirational vision with which Glenn has led us.…I look forward to leading our Company into a new era of world-class products, outstanding customer service and continued growth.” Britt served as CEO since 2001. Marcus joined Time Warner Inc. in 1998 and moved to TWC in 2005. In 2008, he was named CFO. Marcus led TWC’s acquisitions of Adelphia, NaviSite, and Insight. He was named president and COO in 2010. The announcement capped “several years of succession discussions and months of talk about a departure,” according to the New York Times, which noted that, “Marcus has been in line for the top job since 2010, when he was named president and chief operating officer.” The Times reported that succession talks started even before Marcus was promoted to COO in 2010, quoting Nicholas as saying, “This is the kind of handoff you see on a long relay race—where it’s done gracefully and without anybody losing a beat.” Even before the official announcement, Marcus was named as a leading candidate to succeed Britt in a February 1 Wall Street Journal report, which noted securities filings that showed that Britt’s contract had been extended in July 2011 to expire at the end of 2013. In May, The Wall Street Journal reported Artie Minson’s return to TWC as CFO as “an indication to recruiters that its unconfirmed chief-executive succession is underway and CEO Glenn Britt’s expected replacement…Marcus, is putting his own team in place.” Minson, who rejoined TWC from AOL, replaced Irene Esteves. A TWC press release said Esteves was “leaving the company.” Minson who joined Time Warner Cable in 2006 as senior vice president of finance, became executive vice president and deputy CFO in 2007.

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In October, the Wall Street Journal reported that Britt had disclosed in a letter to employees that he had a recurrence of melanoma, after having recovered from the cancer five years earlier. “I am thankful that the transition to Rob was planned early, and was well under way before I got sick,” Britt wrote. “The transition has been seamless so far and is nearly complete.” Britt’s letter said he would continue to work until his planned retirement at the end of the year, according to the report, which stated that shares of Time Warner Cable were off eight cents at $118.64, but the stock was up 22 percent for the year. During his last quarterly earnings call as CEO on October 31, Britt said, “We’re far and deep into the long-planned, well-thought-out transition,” adding, “I’m really pleased with our succession process, which I started discussing with our board a few years ago.” Departing CEO (age) Glenn A. Britt (64) Stated reason for departure Retirement Incoming CEO (age) Robert D. Marcus (48) Incoming CEO qualifications Served as president and chief operating officer since December 2010 and as chief financial officer from 2008 through mid-2011. Previously, senior executive vice president from August 2005. Joined Time Warner Inc. in 1998 as vice president of mergers and acquisitions. Succession type Insider Joint election as board chairman Yes Corporate governance guidelines The full board is responsible for selecting the CEO. The nominating and governance committee reviews CEO succession plans and reports on this subject to the board. The CEO is tasked with proposing to the nominating and governance committee an emergency succession plan to provide for one or more individuals to fulfill his/her responsibilities on an interim basis in the event that the CEO is disabled or otherwise incapacitated. The committee will review that plan and, as appropriate, recommend to the full board for its approval.

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SEC filings According to the proxy statement, filed April 4, 2013, the nominating and governance committee is responsible for assisting the board in relation to succession planning. The executive’s “importance to succession planning” is listed as one of several factors considered in determining compensation. In addition, the company disclosed in the proxy that it amended Britt’s employment agreement in July 2011 “in light of the importance of retaining Britt in his position and in furtherance of the company’s succession planning strategy.” There was no succession planning-related disclosure in the company’s annual report, filed February 15, 2013.

Sources: Time Warner Cable Inc. Corporate Governance Policy, effective as of February 12, 2010 (http://ir.timewarnercable.com/files/ doc_downloads/TWC_Corporate_Governance_Policy.pdf); Time Warner Cable Inc. annual report (Form 10-K), filed February 15, 2013 (http:// ir.timewarnercable.com/investor-relations/financial-reports-and-filings/ sec-filings/default.aspx); “Robert D. Marcus: Chairman and Chief Executive Officer,” Time Warner Cable Inc. website, accessed January 24, 2014 (www.timewarnercable.com/en/about-us/leadership/overview/rob-dmarcus.html); Time Warner Cable Inc. proxy statement, filed April 4, 2013 (http://ir.timewarnercable.com/investor-relations/financial-reportsand-filings/sec-filings/default.aspx) “Glenn A. Britt to Retire from Time Warner Cable at Year’s End; Robert D. Marcus Elected to Succeed Britt as Chairman and CEO,” Time Warner Cable Inc. press release, July 25, 2013 (http://ir.timewarnercable.com/investor-relations/investor-news/ financial-release-details/2013/Glenn-A-Britt-to-Retire-from-Time-WarnerCable-at-Years-End-Robert-D-Marcus-Elected-to-Succeed-Britt-asChairman-and-CEO/default.aspx); “Time Warner Cable Announces Senior Management Changes,” Time Warner Cable Inc. press release, April 29, 2013 (http://ir.timewarnercable.com/default.aspx?SectionId=5cc5ecae6c48-4521-a1ad-480e593e4835&LanguageId=1&PressReleaseId=35401 ddb-a58d-49c3-804f-42d46769cbc8); “Time Warner Cable Management Discusses Q3 2013 Results,” earnings call transcript, Seeking Alpha October 31, 2013 (http://seekingalpha.com/article/1793472-time-warnercable-management-discusses-q3-2013-results-earnings-call-transcript); Brian Stelter, “Glenn Britt to Retire as Time Warner Cable Chief,” New York Times, July 25, 2013 (www.nytimes.com/2013/07/26/business/media/ glenn-britt-to-retire-as-time-warner-cable-chief.html?pagewanted=all&_ r=0); Shalini Ramachandran, “Time Warner Cable CEO Glenn Britt to Step Down,” Wall Street Journal, February 1, 2013 (http://online.wsj.com/ news/articles/SB10001424127887324156204578278103063409188); Maxwell Murphy and Emily Chasan, “CFO Change at Time Warner Cable May Underscore CEO Succession,” Wall Street Journal, May 1, 2013 (http:// blogs.wsj.com/cfo/2013/05/01/cfo-change-at-time-warner-cable-mayunderscore-ceo-succession/); Michael Calia, “Time Warner Cable CEO Glenn Britt Reveals He Has Cancer,” Wall Street Journal, October 29, 2013 (http://online.wsj.com/article/BT-CO-20131029-711363.html).

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A case of insider promotion

Wal-Mart Stores, Inc. Summary of events Wal-Mart Stores, Inc., announced that its board-elected company veteran Doug McMillon to succeed Mike Duke, 63, as president and CEO, effective February 1, 2014. McMillon, 47, was also elected to the company’s board, effective immediately. Wal-Mart said Duke would continue as chairman of the board’s executive committee, and, like his predecessors, would stay on as an advisor to McMillon for one year. McMillon previously served as CEO of Walmart International, a job he took over from Duke when he was promoted to CEO. The company said it would announce McMillon’s successor by the end of the fiscal year. “This is a great company and it has been an honor to help advance Sam Walton’s vision of giving people around the world a better life,” Duke said in a statement. Rob Walton, chairman of Wal-Mart’s board, said the leadership change “comes at a time of strength and growth.” Calling McMillon “uniquely positioned” to lead the company, Walton said Duke “put in place the building blocks for the next generation Walmart.” “The opportunity to lead Walmart is a great privilege,” McMillon said. “Our management team is talented and experienced, and our strategy gives me confidence that our future is bright.” All of the company’s CEOs have been insiders with long tenures. McMillon became the company’s fifth CEO, the youngest to lead the company since its founder, Sam Walton. McMillon joined Wal-Mart as a summer associate in 1984. Prior to heading Walmart International, he was CEO of its Sam’s Club chain. Duke, 63, had been rumored to be considering retirement but an obvious successor had not been floated externally, according to Forbes. Multiple reports named McMillon and Wal-Mart US president Bill Simon as possible successors in the months prior to the announcement. In a November 25 interview with Bloomberg News, former Wal-Mart lead director Jim Breyer said that Duke had approached the board earlier in the year about retiring and offered to stay as long as needed. Breyer said the CEO search “started in earnest about six months ago and initially included outside candidates,” according to the report. The Wall Street Journal reported that Wal-Mart has a “long history of grooming leaders from within and said it began planning for Mr. Duke’s succession years earlier.”

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It also noted that Wal-Mart’s leadership change was announced amid “sluggish sales in its international and US businesses, a global investigation into allegations of bribery at its foreign operations, and worker protests over poor pay practices at its domestic stores.” The activities being investigated preceded McMillon’s leadership of Walmart International, a Wal-Mart spokeswoman told the New York Times. The announcement followed a disappointing earnings report earlier in the month, according to Forbes, which reported that some market watchers “expressed surprise that the company would announce a major leadership change at the start of its critical holiday season,” but noted that Wal-Mart’s shares were up slightly to $80.21 in the morning following the news. On December 10, 2013, Wal-Mart announced that David Cheesewright, 51, president and CEO of Wal-Mart’s Europe, Middle East and Africa (EMEA) and Canada region, would assume McMillon’s role as president and CEO of Walmart International on February 1, 2014. Departing CEO (age) Michael T. Duke (63) Stated reason for departure Retirement Incoming CEO (age) Douglas McMillon (47) Incoming CEO qualifications President and CEO of Walmart International. Began his career with the company in 1984 as a summer associate in a Wal-Mart distribution center. From 2006 to February 2009, served as president and CEO of Sam’s Club. During his 22-year career, held leadership roles in all three operating segments of the company. Succession type Insider Joint election as board chairman No Corporate governance guidelines The board is respon­si­ble for requiring, approving, and overseeing the implemen­tation of the company’s succession plans. The compensation, nominating and governance committee makes an annual report to the board on succession planning. The entire board works with the committee to nominate and evaluate potential successors to the CEO. The CEO should, at all times, make available his or her recommendations and evaluations of potential successors, along with a review of any development plans recommended for such individuals.

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Management reports to the board at least once per year regarding management development and succession. In addition, the guidelines, citing the board’s policy of separating the offices of chairman and CEO, state, “The board believes that this issue is part of the succession planning process and that it is in the best interests of the company for the board to make the determination when it elects a new chief executive officer whether to continue this policy.” SEC filings The company’s proxy statement, filed April 22, 2013, refers to the corporate governance guidelines (described above). There was no succession planningrelated disclosure in the company’s annual report, filed March 26, 2013. Sources: Wal-Mart Stores, Inc., Corporate Governance Guidelines (http:// stock.walmart.com/corporate-governance/); Wal-Mart Stores, Inc., annual report (Form 10-K), filed March 26, 2013 (http://stock.walmart.com/ financial-reporting/sec-filings); Wal-Mart Stores, Inc., proxy statement, filed April 22, 2013 (http://stock.walmart.com/financial-reporting/secfilings/); “Doug McMillon Elected New Chief Executive Officer of Wal-Mart Stores, Inc.,” Wal-Mart Stores, Inc., press release November 25, 2013 (http://news.walmart.com/news-archive/); “Executive Management: Doug McMillon,” Wal-Mart Stores, Inc., website, accessed January 24, 2014 (http://corporate.walmart.com/our-story/leadership/executivemanagement/doug-mcmillon/); Renee Dudley and Carol Hymowitz, “Wal-Mart Said to Focus on McMillon, Simon to Succeed CEO,” Bloomberg News, May 7, 2013; Shelly Banjo and Ben Fox Rubin, “Wal-Mart Names New CEO,” Wall Street Journal, November 25, 2013 (http://online.wsj. com/news/articles/SB300014240527023044656045792197515757 04322); Clare O’Connor, “Walmart Names Doug McMillon New CEO to Succeed Mike Duke,” Forbes, November 25, 2013 (www.forbes.com/sites/ clareoconnor/2013/11/25/walmart-names-doug-mcmillon-new-ceo-tosucceed-mike-duke/); Samantha Sharf, “Wal-Mart Stores Elects New CEO as Holiday Season Enters Full Swing,” Forbes, November 25, 2013 (www. forbes.com/sites/samanthasharf/2013/11/25/wal-mart-stores-electsnew-ceo-as-holiday-season-enters-full-swing/); Elizabeth A. Harris, “A Succession at Walmart Puts an Insider at the Helm,” New York Times, November 25, 2013 (www.nytimes.com/2013/11/26/business/walmartnames-chief-of-international-unit-as-new-ceo.html?_r=0).

A case of an interim appointment and an outside appointment

WellPoint, Inc. Summary of events On February 12, 2013, after a nearly six-month search, WellPoint, Inc., announced that its board had appointed hospital executive Joseph Swedish, 61, president and CEO of Trinity Health Corp., as its new CEO. Swedish’s appointment would be effective March 25. He took over the top spot from John Cannon, who had served as interim president and CEO since August 28, 2012, following the abrupt departure of former CEO, chair, and president Angela F. Braly, 51.

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Braly, president and CEO since 2007 and chair of the board since 2010, resigned amid investor pressure following disappointing results. In July 2012, WellPoint cut its 2012 profit forecast and reported second-quarter earnings that fell short of Wall Street expectations, triggering a sharp drop in its share price, according to the Associated Press, which reported that the company’s shares rose nearly 3 percent in extended trading following news of her departure. Braly’s exit came a month after the board publicly stated its support for her. The board formed a search committee and hired SpencerStuart to help with the search. A Form 8-K filed on August 29, 2012, described the move as “by mutual agreement.” Swedish, who was also appointed as a director, has 40 years of health care industry experience, including more than 20 years as a CEO. Previously, he was president and CEO of Trinity Health Corp. and a director of Coventry Health Care, Inc. Prior to joining Trinity Health, Swedish was president and CEO of health care provider Centura Health. He also served as president of the East Florida and Central Florida Divisions for the Hospital Corporation of America. WellPoint said Cannon, who had told the board that he didn’t want to be considered for the permanent CEO job, would remain as executive vice president of legal and public affairs, and would help “guide the transition, providing continuity and operational leadership.” Under Braly, WellPoint pursued several big transactions in a bid to expand its business, including acquisitions of CareMore, 1-800-CONTACTS, and Amerigroup. Upon her departure, Jackie M. Ward, who was named as WellPoint’s nonexecutive chair, stated, “Our board continues to believe that time will prove the wisdom of potentially transformative actions taken under Angela’s leadership.… But now is the right time for a leadership change.” “I have spoken with our board, and we have agreed this is the right action for WellPoint at this time,” Braly wrote in a memo to employees. “The board and I feel, though, that the company will benefit from getting a fresh perspective on ways we can improve execution across the company.” Announcing the appointment of Swedish, Ward said, “Joe embodies the leadership and visionary qualities we value in our chief executive, and the board is confident that under his leadership we will achieve our full potential for future growth and success.”

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She added, “He brings to WellPoint an extensive track record leading large, complex health care organizations through diverse challenges in difficult market and regulatory environments, and his experience will be invaluable to WellPoint as we continue to find innovative ways to collaborate with providers in an effort to improve quality outcomes and reduce the cost of care.” Ward also thanked Cannon for his “extraordinary contributions” as interim CEO. “Having spent my entire career in health care, I have a strong sense of the market in which the company operates, and I am energized by the dynamic changes currently taking place in the industry,” Swedish said. His choice surprised analysis and investors. “Swedish’s hospital experience could be viewed as helpful, but investors were generally predicting WellPoint would pick a managed-care veteran, the Wall Street Journal reported, quoting one analyst as saying, “This individual is completely out of the blue from an investor-expectation standpoint.” Bloomberg News reported that the pick “wasn’t likely to go down well with shareholders,” citing Swedish’s lack of extensive insurance experience. “Swedish may ultimately be viewed as the best CEO in the history of managed care,” wrote one analyst. “But it’s likely going to take the market some time to figure out if that’s the case.” Among those reported to have been considered for the job were former Amerigroup Corp. CEO James Carlson and retired Aetna Inc. CEO Ronald Williams. Departing CEO (age) Angela F. Braly (51) Stated reason for departure Resignation Incoming CEO (age) Joseph R. Swedish (61) Incoming CEO qualifications President and CEO of Trinity Health Corporation. Previously president and CEO of Centura Health, and president of the East Florida and Central Florida Divisions for the Hospital Corporation of America. Previously served on the boards of Coventry Health Care, Inc., Cross Country Healthcare, Inc., RehabCare Group, Inc., and BankFirst. Succession type Outside hire Joint election as board chairman No Corporate governance guidelines The board plans for succession to the position of the CEO, which is overseen by the executive committee. To assist the board,

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recommendations for an interim successor in the event of the death, disability, or other emergency or termination of the CEO, as well as a process to determine a successor in the event of the CEO’s retirement, are available on a continuing basis. The CEO and the executive committee periodically report to the board on the company’s program for the development and succession planning for management. SEC filings The risk factors section of the company’s annual report, filed February 22, 2013, includes managing key executive succession, stating: “We would be adversely affected if we fail to adequately plan for succession of our Chief Executive Officer and other senior management and retention of key executives.” The company’s proxy statement, filed April 2, 2013, disclosed that, upon the Braly’s departure in August 2012, the board formed a search committee and hired SpencerStuart to help it with the search. Sources: WellPoint, Inc., Corporate Governance Guidelines, as amended October 22, 2013 (http://ir.wellpoint.com/phoenix. zhtml?c=130104&p=irol-govguidelines); WellPoint, Inc., annual report (Form 10-K), filed February 22, 2013 (http://ir.wellpoint.com/phoenix. zhtml?c=130104&p=irol-sec&x=5&y=10&x=27&y=12); WellPoint Inc. proxy statement, filed April 2, 2013 (http://ir.wellpoint.com/phoenix. zhtml?c=130104&p=irol-sec&x=5&y=10&x=27&y=12); “WellPoint Chair and CEO Angela F. Braly Steps Down,” WellPoint, Inc., press release, August 28, 2012 (http://ir.wellpoint.com/phoenix.zhtml?c=130104&p=irolnewsArticle&ID=1729474); WellPoint, Inc., Forms 8-K, filed July 25, 2012, August 29, 2012, and February 12, 2013 (http://ir.wellpoint.com/phoenix. zhtml?c=130104&p=irol-sec); Ken Kusmer, “WellPoint CEO Braly Quits Amid Sagging Results,” Associated Press, August 28, 2012 (http://bigstory. ap.org/article/wellpoint-ceo-braly-quits-amid-sagging-results); Anna Wilde Mathews and Jon Kamp, “WellPoint Hit Hard But Supports CEO,” Wall Street Journal, July 25, 2012 (http://online.wsj.com/news/articles/ SB20000872396390443477104577548532314166926); Evelyn M. Rusli, “WellPoint Deal-Making Chief Steps Down Amid Investor Pressure,” New York Times, August 29, 2012 (http://dealbook.nytimes.com/2012/08/29/ wellpoint-deal-making-chief-steps-down-amid-investor-pressure/); Anna Wilde Mathews and Jon Kamp, “WellPoint’s Braly Quits Amid Pressure,” Wall Street Journal, August 28, 2012 (http://online.wsj.com/news/articles/SB1 0000872396390444327204577617943525945430); Anna Wilde Mathews and David Benoit, “Braly’s Exit at WellPoint Applauded by Investors,” Wall Street Journal, August 29, 2012 (http://online.wsj.com/news/articles/ SB10000872396390444772804577619843467331450); Drew Armstrong “WellPoint’s CEO Braly Resigns Amid Shareholder Criticism,” Bloomberg News, August 28, 2012 (www.bloomberg.com/news/2012-08-28/wellpoints-ceo-braly-resigns-under-pressure-from-shareholders.html); Jenna Goudreau, “Another One Bites The Dust: Angela Braly Resigns As CEO Of WellPoint,” Forbes, August 29, 2012 (http://www.forbes.com/sites/ jennagoudreau/2012/08/29/angela-braly-resigns-as-ceo-of-wellpoint/); J.K. Wall, “Analyst: WellPoint CEO Search Down to Two,” Indianapolis Business Journal, November 19, 2012 (www.ibj.com/analyst-wellpoint-ceosearch-down-to-two/PARAMS/article/38008); Alex Nussbaum, “WellPoint Said to Consider Carlson Among CEO Options,” Bloomberg News, January 15, 2013 (www.bloomberg.com/news/2013-01-15/wellpoint-said-toconsider-carlson-among-ceo-options.html); Anna Wilde Mathews and Jon Kamp, “WellPoint Names New Chief Executive,” Wall Street Journal, February 13, 2013; (http://online.wsj.com/news/articles/SB10001424 127887324880504578300432881680410); Drew Armstrong and Alex Nussbaum, “WellPoint Names Swedish From Trinity Health as New CEO,” Bloomberg News, February 13, 2013 (http://www.bloomberg.com/ news/2013-02-12/wellpoint-names-swedish-from-trinity-health-as-newceo.html).

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Part IV

Shareholder Activism on CEO Succession Planning (2012–2013)


This section highlights two recent cases of shareholder activism on succession planning. Table 4 offers a list of shareholder proposals related to CEO succession planning submitted for consideration at annual meetings held during 2012 and 2013. The proposals requested that the board initiate the appropriate process to amend the company’s corporate governance guidelines to adopt and disclose a written and detailed succession planning policy.

Specifically, the proposals called for the board of directors to:

• review the plan annually; • develop criteria for the CEO position that will reflect the company’s business strategy and use a formal assessment process to evaluate candidates;

• identify and develop internal candidates; • begin nonemergency CEO succession planning at least three years before an expected transition and maintain an emergency succession plan that is reviewed annually; and

• annually produce a report on its succession plan to shareholders. Table 4

Succession planning shareholder proposals (2012–2013)

Status

For votes as a percentage of shares outstanding

For votes as a percentage of yes/no

For votes as a percentage of votes cast*

Ticker

State of incorporation

Meeting date

GOOG

Delaware

6/6/2013

The Laborers’ District Council and Contractors' Pension Fund of Ohio

Fail

5.9

7.0

7.0

SIRI

Delaware

5/21/2013

Central Laborers’ Pension Fund

Fail

6.5

8.9

8.7

AFL

Georgia

5/7/2012

Laborers’ International Union of North America

Withdrawn

Amazon.com

AMZN

Delaware

5/24/2012

Laborers’ International Union of North America

Withdrawn

Berkshire Hathaway Inc.

BRK.B

Delaware

5/5/2012

AFL-CIO Reserve Fund

3.1

4.6

4.6

Carnival Corp.

CCL

Non-US

4/11/2012

Laborers’ International Union of North America

Withdrawn

Dollar General

DG

Tennessee

6/1/2012

Laborers’ International Union of North America

Withdrawn

Kohl’s Corporation

KSS

Wisconsin

5/10/2012

Trowel Trades S&P 500 Index Fund

Fail

14.9

18.0

18.0

Layne Christensen

LAYN

Delaware

6/7/2012

Laborers’ International Union of North America

Withdrawn

Safeway, Inc.

SWY

Delaware

5/15/2012

Laborers National Staff Pension Fund

Fail

23.2

29.5

29.1

Sotheby’s

BID

Delaware

5/8/2012

Laborers’ International Union of North America

Fail

28.8

36.3

36.1

Company name

Sponsor

2013 Google Inc.

Sirius XM Holdings, Inc.

2012 Aflac

Fail

* Includes abstentions. Source: The Conference Board/FactSet, 2014.

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Traditionally, the SEC dismissed shareholder proposals on this subject, based on Rule 14a-8(i)(7) under the Securities Exchange Act of 1934, as “relating to [the company’s] ordinary business operations” (i.e., the termination, hiring, or promotion of employees). On these grounds, corporations had excluded them from their proxy statements. In light of numerous CEO departures during the 2008 financial crisis, the SEC reversed its position to acknowledge that poor CEO succession planning constitutes a significant business risk and raises policy issues about the governance of the corporation, which transcends the day-to-day business matter of managing the workforce. An October 2009 SEC Staff Bulletin announced that, in principle, the Commission

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will no longer allow companies to exclude these types of proposals on such grounds. As a result, corporate disclosure on succession planning has become increasingly common. The following case studies offer insight into how some companies that received shareholder proposals related to succession planning in 2013 responded. Each case study includes the disclosure made by the company, if any, in its most recent annual report and proxy statement, as well any reference to succession planning in its corporate governance guidelines or principles. Where applicable, the information is supplemented with other disclosures made by the company, such as press releases or Form 8-K filings, and/or other published reports.

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Google Inc. The Laborers’ District Council and Contractors’ Pension Fund of Ohio, which represents more than 500,000 construction workers across the United States and Canada, submitted a proposal to Google Inc., calling for the company to adopt and disclose a CEO succession planning policy (for specific features, see discussion of proposals on page 58). The group’s supporting statement read, “Our proposal is intended to have the board adopt a written policy containing several specific best practices in order to ensure a smooth transition in the event of the CEO’s departure.” Google’s board of directors opposed the proposal, stating that adoption was “unnecessary and not in the best interests of Google and its stockholders.” According to the statement of opposition in the company’s proxy statement: One of our board of directors’ principal duties is to review management succession planning. The leadership development and compensation committee reviews at least annually and recommends to the full board of directors plans for the development, retention, and replacement of executive officers, including the chief executive officer.

Additionally, the leadership development and compen­ sation committee and the nominating and corporate governance committee of our board directors are jointly responsible for overseeing the risks and exposures associated with management succession planning. Our board of directors believes that the directors and the chief executive officer should collaborate on succession planning and that the entire board should be involved in the critical aspects of the management succession planning process, including establishing selection criteria that reflect our business strategies, identifying and developing internal candidates to ensure the continuity of our culture, and making key management succession decisions. Management succession is regularly discussed by the directors in board meetings and in executive sessions of the board of directors. Directors become familiar with potential successors for key management positions positions through various means, including regular organi­ zation and talent reviews, presentations to the board, and informal meetings.

Google Inc. CEO Succession Policies and Disclosure Management Succession Planning The company’s Corporate Governance Guidelines list review of management succession planning as one of the board’s principal duties, and specify that the leadership development and compensation committee will review at least annually and recommend to the board plans for the development, retention and replacement of executive officers of Google. Source: Google Inc. Corporate Governance Guidelines, last updated April 11, 2012 (http:// investor.google.com/corporate/guidelines.html).

Disclosure on Succession Planning One of our board of directors’ principal duties is to review management succession planning. The leadership development and compensation committee reviews at least annually and recommends to the full board of directors plans for the development, retention, and replacement of executive officers, including the chief executive officer, of Google.

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Additionally, the leadership development and compensation committee and the nominating and corporate governance committee of our board directors are jointly responsible for overseeing the risks and exposures associated with management succession planning. Our board of directors believes that the directors and the chief executive officer should collaborate on succession planning and that the entire board should be involved in the critical aspects of the management succession planning process, including establishing selection criteria that reflect our business strategies, identifying and developing internal candidates to ensure the continuity of our culture, and making key management succession decisions. Management succession is regularly discussed by the directors in board meetings and in executive sessions of the board of directors. Directors become

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familiar with potential successors for key management positions through various means, including regular organization and talent reviews, presentations to the board, and informal meetings. The section of the company’s 2013 proxy statement titled “Board’s Role in Risk Oversight” cites the leadership development and compensation committee as primarily responsible for overseeing the risks and expo­ sures associated with leadership assessment, management succession planning, and executive compensation programs and arrangements, including incentive plans. There was no additional disclosure related to succession planning in the company’s annual report (Form 10-K), filed January 29, 2013. Source: Google Inc. proxy statement, filed April 24, 2013, p. 20 (https://investor.google.com/ pdf/2013_google_proxy_statement.pdf).

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With the exception of the production of an annual report to shareholders on its succession plan, our board of directors already substantially implements the proposed features. Our board of directors sees no benefit to formally publishing its management succession planning details. Further, we believe it would be inadvisable to publicly report information regarding our confidential internal discussions on management succession planning or to add additional details to our corporate governance guidelines and committee charters, which already address this matter.

Isaac Wallace, who presented the proposal at the company’s June 6, 2013, annual general meeting (AGM) on behalf of the Laborers’ District Council, said that the company misconstrued the intent of the proposal, according to a transcript. “In its opposing statement to the proposal, the company states that, ‘We believe it would be inadvisable to publicly report information regarding our confidential,

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internal discussions on management succession planning or to add additional details to our corporate governance guidelines and committee charters.’ We couldn’t agree more,” Wallace stated. “It is not the funds’ intention for the company to disclose proprietary or confidential information about potential or future successors; rather, we wish only to know that the company has a plan in place and it is regularly considering and developing internal candidates.” The proposal was not approved. (See Table 4 on page 58 for vote results.)

Sources: “Google’s CEO Hosts 2013 Annual Meeting of Stockholders Conference (Transcript),” Seeking Alpha, June 6, 2013 (http://finance. yahoo.com/news/googles-ceo-hosts-2013-annual-035303459.html); Google Inc. annual report, filed January 29, 2013; Google Inc. proxy statement, filed April 24, 2013 (https://investor.google.com/pdf/2013_ google_proxy_statement.pdf); Google Inc. Corporate Governance Guidelines, last updated April 11, 2012 (http://investor.google.com/ corporate/guidelines.html).

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Sirius XM Holdings, Inc. The Central Laborers’ Pension Fund submitted a succession planning proposal at Sirius XM Holdings, Inc., mirroring the proposal detailed on page 58. The company’s board opposed the proposal, which it described as “unnecessary and not in the best interests of shareholders.” The company’s proxy statement noted: The board certainly agrees that one of its most important duties is to ensure that our company is prepared for the planned or unplanned departure of our chief executive officer and any other member of our executive management team. This proposal is unnecessary, however, because our board members engage in discussions about CEO and other executive management succession on an ongoing basis, and our current succession planning process includes most of the features contemplated by the proposal. Finally, the board believes it would be highly inadvisable to publicly report on its succession plan, as requested by the proposal. Our board of directors, along with the nominating and corporate governance committee, is responsible for overseeing our CEO and senior management succession plan and policies. The board recognizes the importance of CEO succession planning and has adopted a nominating and corporate governance committee charter and corporate governance guidelines, both publicly available on our website, that address succession planning. We believe requiring the board to annually produce a report on our succession plan could adversely affect our stockholders. For an annual report to be meaningful, it would have to include confidential and sensitive information about potential candidates and their development, such as assessment of their skills and the possible timeframes for promotions, retirements and other departures. Such detailed information could harm our competitive position. Any such information that we elect or are required to disclose should be disclosed at the time we deem it advisable or required.

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Sirius XM Holdings, Inc., CEO Succession Policies and Disclosure Management Succession Planning The board’s duties include “planning for succession with respect to the position of chief executive officer and monitoring management’s succession planning for other key executives.” Source: Sirius XM Holdings, Inc., Corporate Governance Guidelines (http:// investor.siriusxm.com/governance.cfm), last accessed January 24, 2013.

Disclosure on Succession Planning Continuity/Succession Planning Process

1 Oversee and approve the management continuity planning process. Review and evaluate the succession plans relating to the CEO and other executive officer positions and make recommendations to the board of directors with respect to the selection of individuals to occupy these positions. Source: Sirius XM Holdings, Inc., charter of the nominating and corporate governance committee of the board of directors (http://investor.siriusxm. com/documents.cfm).

If we omitted the competitively sensitive information that would be required by the report contemplated by the proposal, the report would consist only of general statements containing little substance. In addition, such disclosure could cause internal discord and could result in the loss of executive-level talent. The board has been, and will continue to be, fully engaged in thoughtful and timely succession planning. We believe, however, that the amount of disclosure contemplated by this proposal would not be in the best interests of our stockholders, and that the other elements of the proposal have been substantially implemented.

The proposal went to a vote, but was not approved. (See Table 4 on page 58 for vote results.)

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Appendix

The Conference Board Roadmap to CEO Succession Planning


The Conference Board recommends that corporate directors dedicate full attention to their succession planning duties and improve their companies’ leadership development programs. Responsibility for succession planning belongs in the boardroom and nowhere else. The board of directors is legally authorized, temperamentally suited, and in possession of the authority, experience, and wisdom needed for effective succession planning. The problems that can lead to neglect of succession planning by boards are often organizational—and, to a lesser degree, political, psychological, and cultural. However, boards should be able to overcome these problems if directors are willing to objectify the process and make it integral to and continuous with their duties of governance, business oversight, risk management, and strategic decision making. It takes time to develop corporate leaders and select the right chief executive. No decision that is so crucial to the long-lasting success of a business should be rushed. The steps that follow offer a roadmap to help directors organize succession planning, integrate it with existing board responsibilities, make it transparent both within and outside the company, and ultimately define it as an ongoing element of business strategy. The approach is intended to be straightforward, practical, and efficient, transforming succession planning from a responsibility avoided to one embraced. Because succession planning is not a process in which “one size fits all,” flexibility is built into the guide, consistent with the complexity, sensitivity, and customized leadership demands individual companies face.

Step 1

Assign responsibility to a standing board committee of independent directors As the principal driver of succession planning, the board must ensure that business transition matters are frequently included in meeting agendas and that a governance structure is in place to oversee an enterprise-wide leadership development program. In smaller companies, it may be sufficient to assign this role to the lead independent Note: This section is based on Matteo Tonello, John C. Wilcox, and June Eichbaum, “CEO Succession Planning,” in Tonello (ed.), The Role of the Board in Turbulent Times: Leading the Public Company to Full Recovery, The Conference Board, Research Report 1452, 2009, pp. 34–40 (www.conference-board.org/publications/ publicationdetail.cfm?publicationid=1694). It has been updated based on Jason Schloetzer and Edward Ferris, “Preparing for a Succession Emergency,” Director Notes 5, no. 3, The Conference Board, February 2013 (www.conference-board.org/publications/publicationdetail. cfm?publicationid=2429).

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director, who will rely on support from the organization and coordinate communications on this issue to and from senior management. Other corporations may find it practical to include succession planning in the charter of the nominating/ governance committee or the compensation committee. However, due to the increase in today’s board activities, when the size or the complexity of the organization warrants it, the board should consider instituting a dedicated standing committee on succession planning and possibly appoint the lead director as chair. By delegating succession planning to a standing committee, the board elevates planning to the level of its other primary duties. A standing committee brings focus, diligence, and expertise to the task of designing a CEO succession and leadership development program suitable to the organization’s strategy and culture. However, the board, as a whole, must retain full responsibility—overseeing the program structure, setting selection criteria, evaluating candidates, and making the final choice of a CEO—while delegating the practical work to the committee and, under committee coordination, to functional and line managers. Periodic reports to the full board should be mandated to acquire comprehensive and detailed information essential to informed decision making. It is imperative that boards ensure full independence of the oversight process in this area. In particular, independence should be an eligibility requirement to sit on any board committee involved in the leadership development program, as these members need to retain the degree of objectivity and autonomy that is needed to avoid conflicts of interest with senior management and, when needed, suggest dismissals at the top executive level. Should the former CEO continue to serve on the board of directors for a period of time after departing from the management team, the board needs to remain vigilant and prevent any situation in which the authority of the new chief executive could be undermined. In particular, should the board opt for an apprenticeship model, in which the outgoing CEO is asked to serve as board chairman or consultant to the company and mentor the successor through the transition, the board should establish specific safeguards by clearly defining the role of the chairman or consultant and limiting the apprenticeship to no more than eight to 12 months. In case of conflict, the succession planning committee chair or the lead independent director should be responsible for mediating and reaffirming the authority of the new CEO. Under no circumstance should the CEO or former CEO be appointed to a dedicated committee responsible for succession planning.

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The board may be concerned that, if retained as a board member or chair, the former CEO would be too confining and undermine the successor’s ability to bring necessary changes. In those cases, the board should consider ensuring an orderly transition through alternative development techniques, including:

• first promoting the CEO successor to a series of progressively challenging leadership positions (such as CFO or COO) that would provide the opportunity to gain sufficient exposure to strategic issues and enterprise-wide managerial challenges; and

• having the lead director or head of the succession planning committee provide individual coaching sessions to the newly appointed CEO. This mentoring role may prove particularly effective when the successor has the knowledge and expertise required to manage the organization but needs additional guidance to improve his or her communication skills or adjust certain aspects of his or her personality to the business culture.

To put teeth into its commitment to drive the succession planning effort, the board should include in its annual selfassessment (both individual and collective) a set of quantitative and qualitative measures of progress in this area.

Step 2

Make succession planning continuous and integral to business strategy and corporate culture, while monitoring the role of the CEO The board of directors should view succession planning as an integral part of long-term strategy. The process should be continuous, not reactive or ad hoc. It should be a key element in achievement of the larger goal of “sustainability”—in the sense of enabling the business enterprise to adapt, thrive, and grow in response to changing market conditions and other challenges. To align leadership criteria with business strategy, directors must be fully informed about the company’s competitive position, as well as the strengths and weaknesses of the management team. For this purpose, the board should avail itself of adequate resources to benchmark internal candidates against industry peers and assess executive talent available outside the company. Defining CEO skills in terms of objective business criteria helps depersonalize succession planning, steering it away from a political campaign, popularity contest, or secretive back-room deal. It also avoids a “brass ring” competition among internal candidates by focusing attention on the company’s business goals rather than the personal qualities of individual candidates. As a result,

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An Etymological Concern Over time, as companies develop their succession planning programs, they should consider changing the current terminology from “succession” to “leadership.” This report refers to “succession planning” because it remains the most widely used denomination of the process of planning for leadership continuity. However, the term connotes replacement and may put too much emphasis on the incumbent rather than the new leadership. It also carries a hint of its historical linkage to inheritance, royalty, and birthright. A board planning for a “successor” may therefore be overly deferential to the sitting CEO. Similarly, the incumbent may feel a sense of entitlement in the selection and appointment of new leaders.

if the board does not yet have a clear front-runner and is developing multiple candidates, it should seriously consider abstaining from any public announcement of who is being vetted. When the focus is on what—rather than who—the board wants in the company’s leadership, candidates are not made any promise, but given tangible milestones and metrics with which to work. Similarly, directors are encouraged to think about future long-term performance rather than trying to “replace” the current CEO to recreate the past. It is equally important to note that a board cannot determine the qualities it wants in a CEO without detailed knowledge and understanding of the organization’s culture and values. This can be achieved by ensuring that each director, irrespective of his or her role in overseeing succession planning, is in a position to interact extensively with senior managers, both formally and informally, and assess such dimensions as current leadership skills, strategic thinking, and operational knowledge. Nonexecutive directors, in particular, should often visit the company’s facilities and obtain a perspective on how senior managers are perceived by other employees. Offsite events and casual gatherings should also be organized and used by board members to observe how candidates interact in a more informal social environment. It is this human dimension of succession planning that breathes life into an otherwise conceptual process by making it creative, customized, and stimulating to the business at all levels. Similarly, the board should engage with the company’s human resources department to make certain that internal candidates are given enough opportunities to develop their skills, test their business judgment, and receive exposure within and outside the organization.

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Progress against development plans should be discussed in internal reports to the board, which should become an integral part of a senior executive’s annual performance evaluation conducted at the board level. Finally, especially when directors have divergent opinions about certain candidates, the board may consider prudent and discrete ways to assess their reputation among external constituents of the company, including large institutional investors, major lenders, and financial analysts. The CEO and other top executives should actively participate in the succession planning and leadership development program and be expected to cooperate fully with its implementation. In designing the program, the board or a designated committee should delicately balance their oversight role and the need to avoid usurping the CEO’s authority within the organization. However, the board should not hesitate to move the incumbent CEO or other members of the management team to a nondevelopmental role in those cases in which it appears that they are impairing the company’s initiatives to groom new leaders. In particular, directors should remain aware that current management could be induced to acts of ego or self-preservation that are not in the best long-term interest of the corporation and its shareholders. It may occur, for example, in those situations in which the board concludes that there is a need to revisit the strategic direction or reevaluate the company’s ability to achieve its business objectives. For this reason, directors should acquire their own personal knowledge of the talent pool available at various levels within the organization and feel confident about the effectiveness of the leadership development program. Considering that the final decision on issues of succession resides with the board as a whole, each director should be able to contribute to the debate his or her informed opinion about the preparedness of internal candidates. For the same reason, succession planning can also be used as a method to reshape or strengthen business values and behavioral standards in those situations in which directors share concerns about the current corporate culture. In particular, a succession plan can influence the behavior of senior executives and other key employees by explicitly tying career paths, leadership development metrics, and succession criteria to adherence to the highest ethical principles. Aside from the CEO succession plan, the board should be comfortable with the integrity of any process— usually implemented by the CEO—for the selection of other key executive officers, such as the chief financial

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officer (CFO), the chief operating officer (COO) and heads of major business units. This is accomplished with the understanding that the newly appointed CEO and other senior executives should be granted sufficient discretion in retaining other members of the management teams. The board may seek external expertise to advise on the various phases of the succession planning process and assist in thoroughly evaluating candidates. If the company engages an executive search firm for this purpose, it is imperative that the advisor be required to report directly to the board of directors to avoid any undue influence by current management. If no specific reason precludes either the internal promotion or the external recruitment approach, companies should consider adopting a transparent method for benchmarking internal candidates against outside ones. In general, considering the need to base the succession on concrete business strategy objectives, the board should be very cautious in hiring for the chief executive position an outsider with no relevant industry experience.

Step 3

Integrate succession planning into the top-executive compensation policy The board of directors should review the company’s executive compensation policy to ensure that it fully promotes talent development and enables relatively seamless leadership transitions. Given the important correlation between leadership management and remuneration policy, the board should give careful consideration to the role of the compensation committee in succession planning. The compensation committee has overall responsibility for determining the financial incentives that drive value creation at the corporate officer level. Additionally, the compensation committee regularly evaluates objectives and achievements of corporate officers for the purpose of awarding certain performance-related elements of a compensation package. Since those corporate officers are likely to be among the internal candidates under consideration for CEO succession, the compensation committee has the knowledge base and technical tools for assessing their strengths and preparedness for the top job. In particular, in the assessment context, the committee is familiar with benchmarking studies of competitors and peers—a skill that proves highly relevant to the CEO succession process.

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Succession planning entails a variety of organizational tasks that aim at optimizing leadership development throughout the various ranks of the corporation. Although its oversight would not extend to the execution of such tasks, it does require focus and time commitment to design a program that is coherent with the company’s strategy, risk level, and culture. Due to the complexity of many larger organizations and the expansion of compensation committee duties (resulting from recent public scrutiny of top-executive pay), delegating succession planning in its entirety to the compensation committee may be impractical. However, the compensation committee charter should reinforce the notion that compensation is central to talent development and should explicitly call for collaboration on issues of succession planning with the full board or a dedicated committee. Some companies have formally done so and reinforced this broader strategic role of their compensation committee by renaming it. General Electric, for example, has instituted a management development and compensation committee, whose purpose, as stated in the committee charter, is to assist the board in “developing and evaluating potential candidates for executive positions” (see www.ge.com/pdf/company/ governance/principles/ge_governance_principles.pdf, p. 6) to retrieve the committee organizational documents). Especially when the company has witnessed a trend of declining senior executive tenures, the board’s concern should be to properly counterbalance short-term inclinations with a set of long-term behavioral incentives. Long-term performance goals should include intangible assets, such as workforce expertise and professional development, and be accompanied by effective measures of performance. Achievement of such goals should constitute the basis of the board-level assessment of CEO performance and should be conducted at least annually.

Step 4

Integrate succession planning into risk management Management literature finds that failing in leadership transition can adversely affect even the most successful companies. Since it can be a source of business uncertainty, CEO succession and leadership development should be fully integrated into an enterprise-wide risk management (ERM) program. As part of ERM, succession risk should be included in a company’s risk inventory, where it is scientifically measured and prioritized based on factors such as its likelihood of occurrence and its impact on the

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execution of the company’s strategy. Depending on the level of tolerance that the company determines for this type of risk, adequate resources should be allocated to risk mitigation strategies. The benefits of integrating CEO succession into an ERM program are threefold. First, to “stress test” the company’s emergency succession preparedness, the board must define a succession management process and set of protocols that provide a step-by-step guide of what the board must do in the event of an emergency succession. Second, the board must identify a credible emergency successor in advance and periodically reassess the successor’s ability to serve in an emergency situation. Third, a board will be implementation-ready and able to respond rapidly, stay in control of the situation and smoothly manage the announcement and appointment of a successor, helping to mitigate any negative effects on stakeholder reaction, market value, or company performance. By viewing succession-preparedness as part of the company’s overall ERM process, directors can avoid public missteps during a time of intense stakeholder scrutiny and in an era of increased shareholder activism. When the board believes that the circumstances warrant the execution of the emergency plan, directors should fully analyze and discuss the possible effects of the succession on the company’s main stakeholders. Based on this discussion, the board should require management to cooperate in handling critical aspects of the communication strategy chosen to ensure that the transition does not compromise relations that are key to the company’s longterm business objectives (e.g., with customers, suppliers, investors, or local communities and interest groups). The communication initiative should be used as an opportunity to reassure stakeholders of the corporate strategy and the degree of control retained by the board.

Step 5

Make succession planning transparent, internally and externally, and describe it in the company’s annual disclosure Succession planning works best when it is conducted openly and transparently, both within the organization and to its outside stakeholders. Transparency can be achieved by establishing proper communication channels through the ranks of the organization and by including selected information in disclosure documents filed annually with the SEC.

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It should encompass:

• the description of the role of the board, board committees, committee chairs, the CEO, and key senior executives in the succession planning and transition process, including governance structure and corporate policies on board chairmanship and CEO apprenticeship;

• an overview of the main features of the company’s career development program, as well as (human and financial) resources deployed to this effort;

• an objective assessment of the current leadership skill set; • an analysis of selection criteria and assessment metrics (including market benchmarks) the board relies on, as well as their respective rationale in light of the company’s business strategy;

• the reasoning behind an outside succession, if the company is opting for one, explaining how it best serves the interests of shareholders; and

• the fee paid to any outside advisors assisting in the process, and whether it was reported to the board or senior management.

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Transparency does not require disclosure of sensitive data or other proprietary information that could undermine the company’s competitive position. In particular, the names of prospective CEO candidates would not typically be disclosed. By including succession planning and leadership development information in annual disclosure documents, the board accomplishes two important goals. First, such information corroborates compensation policy disclosure and opens a window into the boardroom for stakeholders to better evaluate the soundness of the strategic decisionmaking process. Understandably, owners and other gatekeepers expect to fully appreciate what motivates crucial business decisions made at the board level. If the disclosure is truly insightful, it will be clear how the board resolves conflict, balances competing interests, and oversees the implementation of strategy. Second, the mechanics of the annual disclosure procedure set a compelling time frame for the company to advance its succession planning exercise. Even though it is not mandated by regulation, such voluntary disclosure becomes an essential part of the company’s relations with stakeholders, helps manage their expectations, and reassures that the company’s board and senior managers are accountable for the long-term performance of the enterprise.

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About the Authors Jason D. Schloetzer is assistant professor of accounting at the McDonough School of Business, Georgetown University. His research focuses on the monitoring and control mechanisms used to manage the modern organization, which includes the design, implementation, and performance consequences of performance measurement/management systems and corporate governance practices. He has published in leading academic accounting journals, including Journal of Accounting Research and The Accounting Review, and was named a “Person to Watch” by the National Association of Corporate Directors in 2012. For The Conference Board, he has authored Global Trends in BoardShareholder Engagement, Preparing for a Succession Emergency: Learning from Unexpected CEO Departures, Corporate Misconduct and the Market for Directorships, Retaining Former CEOs on the Board, and coauthors with Matteo Tonello and Melissa Aguilar the CEO Succession Practices annual research report. Schloetzer received his doctorate from the Joseph M. Katz Graduate School of Business, University of Pittsburgh. Matteo Tonello is managing director of corporate leadership at The Conference Board. In his role, Tonello advises members of The Conference Board on issues of corporate governance, regulatory compliance, and risk management. He regularly participates as a speaker and moderator in educational programs on governance best practices and conducts analyses and research in collaboration with leading corporations, institutional investors, and professional firms.

Melissa Aguilar is a researcher in the corporate leadership department at The Conference Board in New York. Her research focuses on corporate governance and risk issues, including succession planning, enterprise risk management, and shareholder activism. Aguilar serves as executive editor of Director Notes, a bimonthly online publication published by The Conference Board for corporate board members and business executives. She is also the author of The Conference Board Proxy Voting Fact Sheet and coauthor of Proxy Voting Analytics. Prior to joining The Conference Board, she reported on compliance and corporate governance as a contributor to Compliance Week and Bloomberg Brief Financial Regulation. Aguilar previously held a number of editorial positions at SourceMedia Inc.

Acknowledgments The authors would like to thank Sean Sun of Georgetown University McDonough School of Business for his assistance with the compilation of the data sample analyzed in this report.

He is the author of several publications, including Corporate Governance Handbook: Legal Standards and Board Practices, Director Compensation and Board Practices, The Corporate Contributions Report, The Institutional Investment Report and Trends in Asset Allocation and Portfolio Composition. He is the founder of Director Notes, a biweekly online publication for corporate board members and business executives. In September 2010, he was named by the National Association of Corporate Directors to the Directorship 100, a list of the most influential experts in corporate governance. Prior to joining The Conference Board, he practiced corporate law at Davis Polk & Wardwell. Tonello is a graduate of Harvard Law School and the University of Bologna.

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Related Resources from The Conference Board Publications Corporate Governance Practices in US Initial Public Offerings Director Notes 6, No. 7, April 2014

Retaining Former CEOs on the Board Director Notes, No. 15, September 2010

How Well Do Directors Know Senior Management? Director Notes 6, No. 5, March 2014

Examining the Impact of SEC Guidance Changes on CEO Succession Planning Director Notes No. 007, April 2010

The Impact of Board Dynamics on Shareholder Value Creation Director Notes 6, No. 3, February 2014 Risk Oversight: Evolving Expectations for Boards Director Notes 6, No. 1, January 2014 The 2013 Succession Management Conference Conference KeyNotes Report 108, November 2013 Proxy Voting Analytics (2009–2013) Research Report 1523, October 2013 Global Trends in Board-Shareholder Engagement Director Notes 5, no. 20, October 2013 Preparing for a Succession Emergency: Learning from Unexpected CEO Departures Director Notes 5, no. 3, February 2013 U.S. Director Compensation and Board Practices: 2013 Edition Research Report 1509, February 2013 Corporate Governance Practices for Initial Public Offerings in the United States Director Notes 4, no. 2, January 2012 Separation of Chair and CEO Roles: Importance of Leadership Knowledge, Leadership Skills, and Attention to Board Process Director Notes 3, no. 16, August 2011

Corporate Governance Handbook: Legal Standards and Board Practices (Third Edition) Research Report 1450, 2009 The Role of the Board in Turbulent Times: Leading the Public Company to Full Recovery Research Report 1452, September 2009 The Role of the Board in Turbulent Times: CEO Succession Planning Executive Action Report 312, August 2009

About The Conference Board Governance Center® The Conference Board Governance Center brings together a distinguished group of senior corporate executives from leading world-class companies and influential institutional investors in a collaborative setting. As a member of the Governance Center, you will participate in a thought-leading forum to engage with other corporate executives and institutional investors in a confidential, collaborative setting; hear from outside experts about emerging issues; discuss and get counsel on your most pressing governance, ethics, and enterprise risk challenges; examine issues from an interdisciplinary perspective; and drive landmark research that contributes to advancing best practices. For more information, please visit www.conference-board.org/governance

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CEO Challenge 2014 速

ASEAN Edition

PEOPLE AND PERFORMANCE RECONNECTING WITH CUSTOMERS AND RESHAPING THE CULTURE OF WORK


The Conference Board creates and disseminates knowledge about management and the marketplace to help businesses strengthen their performance and better serve society. Working as a global, independent membership organization in the public interest, we conduct research, convene conferences, make forecasts, assess trends, publish information and analysis, and bring executives together to learn from one another. The Conference Board is a not-for-profit organization and holds 501(c)(3) tax-exempt status in the USA. To help senior executives make the right strategic decisions, The Conference Board provides big-picture insights within and across our three knowledge areas: Corporate Leadership Economy & Business Environment Human Capital For more information, visit www.conferenceboard.org For more information on The Conference Board CEO Challenge速, visit www.ceochallenge.org


CEO Challenge 2014: ASEAN Edition 速

People and Performance Reconnecting with Customers and Reshaping the Culture of Work RESEARCH REPORT 1546-14-RR by Charles Mitchell, Rebecca L. Ray, and Bart van Ark, with Derrick Kon

4

Introduction: Meeting the Challenges Ahead

7

Executive Summary: Engagement, Accountability, Customer-centricity

10

The Challenges

17 17

Meeting the Top Challenges in ASEAN Human Capital

25

Operational Excellence

28

Customer Relationships

30

Government Regulation

32

Innovation

34

Appendix Top five strategies for the next five challenges in the ASEAN region

35

Top five strategies to meet the top five challenges in Singapore

36

Top five strategies to meet the top five challenges in Thailand

37

Top five strategies to meet the top five challenges in Malaysia

38

Survey Methodology

39

About the Survey

39

Regional Partners

40

About the Authors

41

Related Resources from The Conference Board


INTRODUCTION: MEETING THE CHALLENGES AHEAD As the global economy struggles to find a new sustainable growth path, CEOs within the ASEAN community as well as their counterparts in the rest of Asia and the world are shrugging off considerable headwinds—less than encouraging government policies in many economies; uncertainties about the resilience of customers, consumers, and financial institutions; and the creative destruction brought on by new and sometimes risky technology. CEOs in ASEAN say they are managing this mushrooming complexity and the new challenges brought on by the launch of the ASEAN Economic Community (AEC) with a focus on people, performance, reconnecting with customers, and reshaping the culture of work. The 2014 edition of The Conference Board CEO Challenge® survey finds business leaders across the globe are zeroed in on not only what gets done but more importantly how things get done: they are willing to take a hard look at their own organizational culture to ensure engagement, accountability, customer-centricity, agility, and ultimately outstanding performance. CEOs in ASEAN are seeking strong business leadership that is able to drive change and not afraid to boldly innovate (and even fail) in a performance-focused environment. They also see a renewed commitment to customers as a key to driving enterprise growth even in what promises to be a slow global growth environment for some time to come. And to accomplish this, they recognize the importance of developing an engaged workforce and a diverse and accountable leadership team—all while keeping an eye on what many CEOs see as an increasing burden of government regulation. Human Capital is the top challenge both globally and in ASEAN, but CEOs in the region have greater concerns over Government Regulation than their global peers Global N=1,020

ASEAN CHALLENGES 2014

N=180

1

Human capital

1

2

Customer relationships

3

T3

Innovation

5

T3

Operational excellence

2

5

Corporate brand and reputation

7

6

Global political/economic risk

8

7

Government regulation

4

8

Sustainability

6

9

Global/international expansion

9

Trust in business

10

10

N=Number of overall responses. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “Survey Methodology” on page 38.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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Since 1999, The Conference Board has asked CEOs, presidents, and chairmen across the globe to identify their most critical challenges. In this year’s CEO Challenge survey, there is global convergence around Human Capital, Customer Relationships, Innovation, and Operational Excellence—four highly related and interdependent challenges. These four, selected by the 1,020 respondents, all appear in the top-five list of challenges (in varying order) in every global region, including in ASEAN. This suggests some commonality in the big-picture issues confronting the global business environment. However, the strategies CEOs are employing to meet these challenges highlight the disparity of the issues in their micro business climates. As in previous years, there is clear recognition among CEOs that Human Capital is the engine of the enterprise. Globally as well as in ASEAN, Human Capital is decisively the most important challenge for CEOs—it was either first or second in every region. Human capital is, in essence, the thread that runs through the other top-ranked challenges and forms the basis for strategic action. Also in times of slow growth, smart companies are repositioning themselves to win market share battles against relentless global competition—hence the rise in importance of Customer Relationships both globally and in ASEAN. While the challenges listed in this survey represent big-picture issues confronting organizations, this year The Conference Board added questions on hot-button issues— more immediate and tactical events and situations that CEOs believe will require much of their attention in the coming year. Globally the number one hot-button issue is big data analytics (it was tied for the fifth spot in ASEAN)—an issue that is just starting to emerge and, if executed correctly, can provide competitive advantage in many ways. In general the hot-button issues were found to be much more region or even country specific. Currency volatility tops the list in ASEAN, while in the United States CEOs are focusing on health care benefits for employees. Other top ranked hot-button issues regionally are concerns about economic depression in Europe among European-based CEOs while CEOs in Asia fear financial instability in China and Latin American CEOs are consumed by labor relations. In addition, The Conference Board asked CEOs what they see as the essential traits and behaviors that future leaders must exhibit to succeed in an evolving global business environment. The global top-five attributes also featured prominently across all regions: 1 integrity, 2 leading change, 3 managing complexity, 4 entrepreneurial mind-set, and 5 retaining and developing talent. Future leaders in ASEAN are expected to possess those attributes as well, but also need to be creative, inspire innovation, and keep a focus on sustainability.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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While the focus tends to be on the top challenges selected by CEOs, it is interesting to look at those challenges mentioned less often. Sustainability (with the notable exception of China and to a lesser extent ASEAN) and in particular Trust in Business have scored consistently low on the lists. For the second consecutive year (it was introduced as a challenge in the 2013 survey), Trust in Business finishes at the bottom of the challenge list globally and in every region (including ASEAN) except Latin America, where it is second from last. Big data is a big deal globally, but finance and currency issues dominate in ASEAN Global N=970

ASEAN HOT-BUTTON ISSUES 2014

N=180

1

Big data analytics

T5

2

Economic depression in Europe

12

3

Diversity in our leadership ranks

2

4

Currency volatility

1

5

Financial instability in China

4

6

Labor relations

7

7

Cybersecurity

9

8

Volatility in energy markets

11

9

Health care benefits for employees

8

10

Activist shareholders/stakeholders

T5

11

Complying with government regulations on bribery and corruption

3

12

Physical redesign of corporate offices (open plan)

10

13

Human rights risk in our supply chain

13

NR

Public demand for closing corporate tax loopholes

NR

NR=Issue was not ranked by any of the respondents.

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RESEARCH REPORT The Conference Board CEO Challenge速 2014: ASEAN Edition

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EXECUTIVE SUMMARY: ENGAGEMENT, ACCOUNTABILITY, CUSTOMER-CENTRICITY More than five years after the global financial and economic crisis, the notion that one day the global economy will recover to its pre-crisis growth path may require a leap of faith on a macro scale. The picture is blurred by mostly policy-related headwinds as many governments in mature and emerging markets are—in different ways—still struggling with the aftermath of the crisis. Austerity programs, tapering of quantitative easing, and managing currency volatility are only some of the factors that make it unclear what a sustainable macroeconomic growth path is. However, this wouldn’t be the first time that a long period of slow growth made way for a much more favorable growth path. To achieve success, CEOs recognize the importance of developing an engaged workforce and a diverse and accountable leadership team. One message that comes through loud and clear from this year’s survey responses is the strong appetite among CEOs to reshape how their organizations work, with an emphasis on people, performance, and customers. They are focusing on how things get done and are willing to take a hard look at their own organizational culture to ensure engagement, accountability, customer-centricity, and ultimately great performance. Continuing the trend that surfaced in last year’s survey, CEO concerns about the global risk environment and the intrusion of government regulation in business continue to ease. Global Political/Economic Risk, which was the third-ranked challenge globally in 2012 and fifth in the 2013 survey, is sixth in 2014 and eighth in ASEAN. Also Government Regulation, the top concern of CEOs in the United States and a top-five challenge globally as recently as 2012, now falls near the bottom of the challenge list globally, though it does make the top five in ASEAN as well as in the United States and Latin America. Among the findings from the 2014 survey:

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Human Capital as an enterprise-wide driver In addition to being the top-ranked challenge globally and in ASEAN, Human Capital is closely linked to three of the next four top challenges in the region—Operational Excellence, Customer Relationships, and Innovation—in that a talented, engaged, and properly motivated workforce is critical to success. All of these challenges are inwardly focused and hence more easily controlled. Government Regulation also makes it into the top five challenges in ASEAN, coming in at number four, up one spot from the 2013 survey.

Cautious optimism about the future A slim majority (53 percent) of CEOs in the region say they expect the overall economic situation in ASEAN to be better in the coming year, while only 9 percent see conditions deteriorating. Seventy percent of regional respondents believe economic integration, which comes into force in 2015, will have a positive impact on their business—but that impact may not be overly profound. Only 17 percent say economic integration will have a highly positive impact, while most (53 percent) see only a somewhat positive impact.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

7


8

More intense competition ahead CEOs in the region believe the greatest challenge stemming directly from the AEC will be increased trade competition—all the more reason for them to improve operating efficiency, pay more attention to customers, and foster an innovative culture within their organizations. Tied closely to their selection of Human Capital as their number one challenge overall is concern over increased competition for both management talent and skilled labor, stemming from the freer movement of labor related to the introduction of the AEC.

Currency worries abound When it comes to hot-button issues regionally, CEOs in ASEAN identify currency volatility as their top hot-button issue, followed by diversity in leadership ranks and complying with government regulations on bribery and corruption. Underscoring their concerns around currency volatility and cash flow are their selection of focus on reduction of baseline costs and improve cash management as their number two and three strategies to meet the Operational Excellence challenge. They also select manage currency risk (number two) and improve access to credit (number five) as top five strategies to meet the Global Political/Economic Risk challenge. CEOs in ASEAN are far more focused on these issues compared to the peers globally.

Employee engagement and improving rank-and-file skills continue to gain momentum As a Human Capital strategy, raise employee engagement was ranked third in 2013 and is now second in ASEAN, while raise employee engagement to drive productivity is the number four strategy to improve Operational Excellence. There is also considerable emphasis on employee skills improvement. Provide employee training and development is the number one Human Capital strategy—the only other region to rank it number one is Latin America— while develop innovation skills for all employees is a top ten strategy to meet the Innovation challenge.

Toward a performance culture Performance management is a critical top five strategy to address the Human Capital challenge in every region except Europe. Throughout Asia, and especially in both the ASEAN region and in China, staff and leader performance and accountability are near top of mind as CEOs look at how to counter the slowing productivity trend and improve performance to move up the global value chain. Improve performance management processes and accountability and enhance effectiveness of the senior management team are the number three and four strategies to meet the Human Capital challenge in ASEAN, while improve performance management and accountability of middle management is a top ten Operational Excellence strategy.

A blind eye to social media Social media is one of the most immediate threats and greatest opportunities when it comes to brand and reputation and as a knowledge sharing tool within an organization. While CEOs in other regions of the globe appear to appreciate the importance of using the medium to enhance and protect a corporate reputation and win new customers, CEOs in ASEAN appear less enthusiastic. Use social media and new communication technologies is the number four strategy globally to meet the Corporate Brand and Reputation challenge, but only eleventh in ASEAN. CEOs in ASEAN also give the use of social media low rankings as a strategy to improve Customer Relationships (eleventh) and improve knowledge sharing to meet the Innovation challenge (thirteenth). Encourage use of social media for talent recruitment and acquisition is also the lowest ranked strategy to meet the Human Capital challenge in ASEAN.

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Shaping culture The strategies selected by ASEAN CEOs to achieve Operational Excellence—“the challenge they control”—relate to reshaping the work environment and culture to improve performance. Improve our organizational agility/flexibility is the number one strategy within ASEAN while seek better alignment between strategy, objectives, and organizational capabilities; better align IT with business goals; and raise employee engagement to drive productivity are all top ten strategies. In another indication of the focus on culture change, create culture of innovation by promoting and rewarding entrepreneurship and risk taking is the number one strategy to meet the Innovation challenge.

Human rights risk Despite the high profile given to such 2013 supply chain disasters as the fatal Bangladesh factory collapse in April 2013 as well as activist shareholders and nongovernmental organizations seeking supply chain compliance assurance, CEOs in ASEAN and around the world rank better monitor supply chain for human rights risk dead last as part of their plan to meet the Corporate Brand and Reputation challenge. CEOs in ASEAN as well as the other global regions also rank this far down on their hot-button issue list. It is thirteenth out of fourteen hot-button issues in ASEAN.

Innovation loses ground as concerns around customers and operating efficiency rise Global N=1,020

CHALLENGES 2014

ASEAN 2014

ASEAN 2013

N=180

N=183

1

Human capital

1

1

2

Customer relationships

3

4

T3

Innovation

5

2

T3

Operational excellence

2

3

5

Corporate brand and reputation

7

7

6

Global political/economic risk

8

8

7

Government regulation

4

5

8

Sustainability

6

6

9

Global/International expansion

9

9

10

Trust in business

10

10

N=Number of overall responses. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “Survey Methodology” on page 38.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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THE CHALLENGES An Appetite for Change – Leveraging People to Build a Customer-centric, Performance-based Culture The day-to-day battle of doing business The times are changing in Asia as the hyper-economic growth of earlier decades begins to give way to a more moderate (but still enviable by mature economy standards) and sustainable pace for the foreseeable future. According to The Conference Board Global Economic Outlook 2014, China’s economy, considered the economic engine for much of the region, remains subject to significant policy challenges. Though some policy responses may provide a short-term upside through a continued reliance on more investment-intensive, less-efficient state-owned enterprises, at the same time they may present an increased risk of instability especially in the financial system—a possibility clearly on the minds of regional CEOs.1 In the past year the growth performance of Southeast Asia has been challenged, to a large extent as a result of weaker growth in the global economy and the anticipated tapering of quantitative easing by the Federal Reserve in the United States. However, despite such external threats, much of the weakness in growth reveals internal structural problems. In some of the more advanced economies, such as Malaysia and Thailand, these are related to underinvestment in critical knowledge resources. In some of the lower income economies, such as Laos and Vietnam, the slow pace of reform in labor and product markets creates the risk of suffering from competition in a “race to the bottom” based on lowering cost and prices, as labor and capital gets locked up in lessproductive sectors. So in a slower growth environment, CEOs in ASEAN sense the urgency of moving up the global value chain to spur faster growth, even if the demographic, environmental, regulatory, and political forces prevalent throughout the region will make this difficult. Many ASEAN economies (with some exceptions such as Singapore, which already has a knowledge-based economy) recognize that to be competitive they must up-skill their workforces and become more innovative as they evolve from being a source of cheap, low-end production to one of more value-added, higher tech manufacturing and services. To get there, CEOs see the need for a people-driven strategy that enables not only meaningful innovation but overall business performance and high productivity, as underscored by their selection of provide employee training and development and raise employee engagement as their number one and two Human Capital strategies, respectively. Crisis is one driver of innovation, and Asia—and it seems ASEAN—is in constant crisis. Success in the region is about speed, and companies are willing to take risks to get new products to market faster.

1

10

Bart van Ark, “Global Economic Outlook 2014: Time to Realize the Opportunities for Growth,” StraightTalk® 24 Number 1, The Conference Board, November 2013. http://www.conference-board.org/publications/ publicationdetail.cfm?publicationid=2653]

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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Although CEOs in ASEAN rate Innovation slightly lower their global peers on the challenge tables, the regional importance of innovation is reinforced by the selection by CEOs in ASEAN of leading change as the number one future leadership attribute, entrepreneurial mind-set as number three, and creativity at number five (see page 20 for full rankings). As 2015 and the realization of the ASEAN Economic Community nears, business leaders face an array of challenges tied to the reality of economic integration. Competition for talent and for innovative goods and services will likely intensify because of the free movement of skilled labor, the abolition of tariffs and customs regulations, and the opening of regional markets stimulated by the free flow of virtually all goods except those from “sensitive” industries (i.e., automobiles, electronic consumer goods) traded within the community. ASEAN leaders have told The Conference Board that among their top concerns are heightened competition from freer trade and a shortage of leadership talent and high-skill workers—thoughts shared by most other countries throughout Asia-Pacific. Strong individual business leadership that is able to drive change, a focus on building a performance culture that is not afraid to boldly innovate, and a renewed commitment to customers and corporate brand are seen by CEOs in this year’s survey as the keys to driving enterprise growth and achieving better performance. They also realize that not every company can emerge from this crisis in a similarly strong manner; there will be winners and losers. Across the ASEAN countries listed separately in this report, Human Capital is clearly the number one challenge, a fact echoed by the concerns ASEAN CEOs cite in the special challenges (i.e., greater completion for managerial talent and skilled labor) they face with the coming implementation of the AEC in 2015. The message is clear: without the right talent, it becomes difficult for organizations to operate effectively and grow.

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Sustainability matters in Malaysia While CEOs in ASEAN rank the Sustainability challenge higher than their peers globally, there is a special focus on the issue in Malaysia, one that CEOs there share with their counterparts in China. Sustainability is the second-ranked challenge in Malaysia—the highest ranking of any country globally. It is fourth in China, which is the second-highest ranking globally.

Looking outward for growth Singapore is the only ASEAN country to give Global/ International Expansion a top five challenge ranking, reflecting that country’s drive to become a key international banking, investment, and insurance hub. Singapore’s efficiency in the financial, labor, and goods markets as well as its world-class infrastructure, strong focus on education, and innovation has resulted in its ability to retain its foothold as the most competitive city in Asia according to the World Economic Forum’s Global Competitiveness Index 2013–2014 rankings.2

Innovation challenge Surprisingly, CEOs in Malaysia give one of the lowest global challenge rankings to Innovation, placing it seventh overall (it is fifth overall in ASEAN). CEOs in Thailand give it the highest ranking at number three, still below their peers in China who have it as number one, ahead of Human Capital.

2

Klaus Schwab and Xavier Sala-i-Martín, The Global Competitiveness Report 2013–2014, World Economic Forum, 2013. http://www3.weforum.org/docs/WEF_GlobalCompetitivenessReport_2013-14.pdf

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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The Human Capital challenge cuts across all regions; high performance, strong customer relationships, and innovation are seen as essential for growth; ASEAN CEOs give government regulation the highest ranking globally Global N=1,020

CHALLENGES 2014

Europe

Latin America

United States

Asia

ASEAN

N=105

N=114

N=233

N=479

N=180

1

Human capital

1

2

2

1

1

2

Customer relationships

3

3

1

4

3

T3

Innovation

2

4

4

2

5

T3

Operational excellence

4

1

3

3

2

5

Corporate brand and reputation

7

8

T5

5

7

6

Global political/economic risk

6

6

7

T6

8

7

Government regulation

9

5

T5

8

4

8

Sustainability

8

10

8

T6

6

9

Global/international expansion

5

7

9

T9

9

10

Trust in business

10

9

10

T9

10

N=Number of overall responses. T=Tie. In addition to other countries, the Asia category includes China, India, and Australia. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “Survey Methodology” on page 38.

The Human Capital challenge tops in ASEAN; CEOs in Singapore eye global markets while Sustainability is a major issue in Malaysia Global N=1,020

CHALLENGES 2014

Asia

ASEAN

N=479

N=180

N=88

N=39

China

India

Australia

Hong Kong

N=29

N=139

N=47

N=82

N=27

Singapore Thailand Malaysia

1

Human capital

1

1

1

1

1

2

1

3

1

2

Customer relationships

4

3

3

T3

T5

5

5

1

2

T3

Innovation

2

5

4

T3

7

1

4

5

4

T3

Operational excellence

3

2

2

2

3

3

2

2

3

5

Corporate brand and reputation

5

7

T6

9

T5

6

T8

4

5

6

Global political/economic risk

T6

8

9

5

8

7

3

8

9

7

Government regulation

8

4

T6

8

4

9

6

6

7

8

Sustainability

T6

6

8

7

2

4

T8

7

10

9

Global/international expansion

T9

9

5

6

9

10

7

10

6

10

Trust in business

T9

10

10

10

10

8

10

9

8

N=Number of overall responses. T=Tie. In addition to other countries, the Asia category includes China, India, and Australia. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “Survey Methodology” on page 38.

12

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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Hot-Button Issues Vary Much More between Regions Than Overall Challenges One addition to the 2014 survey includes a question asking what “hot-button issues” CEOs expect to have an impact on the immediate business environment—those things that truly “keep them awake at night.” The hot-button issues underscore the ongoing volatility and uncertainty that dominate their operating environments and tactical decisions. They are also clear reflections of the unique day-to-day risks business leaders face in each region. Big data analytics, the number one hot-button issue globally (it is still ranked fairly high in ASEAN at a tie for fifth) is primarily an opportunity, although it can become a risk. It can be an important tool (if used properly) to fundamentally alter a firm’s competitive advantage by driving corporate efficiency, developing hedging strategies, and retaining and gaining new customers by better predicting behaviors, needs, and trends. In the end, the information derived from big data forces action. There is also a clear role for big data analytics in the human capital space, particularly in strategic workforce planning. However, while CEOs in other regions of the globe do not appear to be fully aware of or embracing its potential, that is not the case in ASEAN. While require the use of analytics to articulate the business impact of key human capital initiatives and programs is one of the lowest ranked strategies to meet the Human Capital challenge globally, it is tenth in ASEAN—the highest ranking given by CEOs in any region. Financial issues are top of mind for CEOs across the globe, with ongoing concerns about economic depression in Europe second, currency volatility fourth, and financial instability in China fifth. On a regional basis, CEOs in Asia see financial instability in China and currency volatility (number one in ASEAN) as their top two hot-button issues, while in Europe economic depression in Europe and volatility in energy markets are ranked one and two. In Latin America, where the concept of social justice and wage equality is always near the surface, labor relations and currency volatility take the top spots. In the United States, health care benefits for employees is number one by a considerable margin over the global number one, big data analytics.

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Anti-bribery focus CEOs in ASEAN place considerable significance on compliance with anti-bribery statutes, a stance they share with their peers in Latin America. Complying with government regulations on bribery and corruption is ranked as the number three hot-button issue in ASEAN and number five in Latin America. Among CEOs in more mature economies, anti-bribery compliance is less of an issue.

Labor concerns CEOs in Singapore cite labor relations as their second most important hotbutton issue, the highest ranking in the region and a reflection of recent tensions among the immigrant labor force in the country who have voiced concern over pay and living conditions as guest workers.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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Leadership diversity a major focus The number three ranked hot-button issue globally is the human capital-related issue of diversity in our leadership ranks. CEOs across the globe are clearly concerned about diversity—it is ranked second in ASEAN (number one in Malaysia) and no region has it lower than number four on the hot-button issue list, though it is number five in Singapore. In addition to governmental mandates regarding board diversity, CEOs have come to the realization that diversity among a company’s leadership team is simply good business. Diversity of views and experiences allows for greater awareness of customer and consumer needs and tastes, especially as a company enters new markets, looks to attract new market segments, or creates new products and services. Diversity is especially important given the rise in purchasing power among women around the world and within the emerging middle-class consumers in markets like China, India and Thailand—where buying decisions for certain goods will, more often than not, be made by women. Diversity (or lack thereof) affects the corporate brand and makes a difference to both potential consumers and “free market” top talent when considering similar products or similar employers.

CEOs in ASEAN are highly focused on anti-bribery and corruption regulation compliance Global N=970

HOT-BUTTON ISSUES 2014

Europe

Latin America

United States

Asia

ASEAN

N=97

N=111

N=217

N=457

N=180

N=88

N=27

N=37

Singapore Malaysia Thailand

1

Big data analytics

5

4

2

3

T5

3

T5

T6

2

Economic depression in Europe

1

7

5

7

12

4

T5

9

3

Diversity in our leadership ranks

3

3

4

4

2

5

1

T2

4

Currency volatility

6

2

6

2

1

1

4

1

5

Financial instability in China

8

10

10

1

4

6

T10

T2

6

Labor relations

7

1

7

5

7

2

3

8

7

Cybersecurity

4

6

3

11

9

7

2

10

8

Volatility in energy markets

2

8

T8

8

11

10

12

T2

9

Health care benefits for employees

NR

T12

1

12

8

8

T10

12

10

Activist shareholders/stakeholders

9

9

T8

6

T5

12

T8

13

11

Complying with government regulations on bribery and corruption

10

5

12

9

3

9

T5

T6

12

Physical redesign of corporate offices (open plan)

12

11

11

10

10

11

T8

5

13

Human rights risk in our supply chain

11

T12

13

13

13

13

13

11

NR

Public demand for closing corporate tax loopholes

NR

NR

NR

NR

NR

14

NR

NR

N=Number of overall responses. T=Tie. In addition to other countries, the Asia category includes China, India, and Australia. The response rate varies for each issue. Each score represents the mean of the ranks given the issue. For information about how the scores were created, see “Survey Methodology” on page 38.

14

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ASEAN RISING CEOs believe economic integration will have a positive impact on their business but there are concerns about increased competition As part of the 2014 edition of The CEO Challenge survey, The Conference Board and its regional partners asked CEOs of companies operating within ASEAN to identify what they expect to be their top-five challenges stemming from deepening integration. The results reveal concerns around trade, talent, and regulation. With 2015 and the creation of the ASEAN Economic Community (AEC) approaching, business leaders sense an era of intensified competition emerging in the region, one that will focus not only on trade (their number one concern) but talent as well. Human capital issues, especially greater competition for skilled labor and management talent and retention of that talent, are three of the top ten challenges CEOs say they face as a direct result of the implementation of the AEC, which has the potential to increase the region’s clout on the global stage. As a single economic bloc, ASEAN’s combined nominal GDP of USD 2 trillion would rank it the ninthlargest economy in the world. Consistent with their overall concerns about cost controls and cash flow that surfaces in this year’s CEO Challenge survey, they also expect increased operating costs as one result of integration. There is also concern over the potential for creeping protectionism—worry that the new cross-border playing fields will not be truly level. Four of their top ten AEC-related challenges deal with regulation and compliance. There are certainly reasons for optimism over the potential impact of integration. Overall a slight majority of CEOs see economic conditions within ASEAN getting better in the coming year. When it comes to the AEC specifically, a considerable majority of CEOs believe the AEC will have a positive impact on their businesses, though few (only 17 percent) see that impact being highly positive. Most see the impact as somewhat positive but virtually none (1 percent) see a negative impact arising from integration.

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On paper at least, improved coordination of supply chains should result in both cost and logistical efficiencies, making ASEAN companies more competitive regionally, even globally. As the cost of labor in China climbs and the yuan continues its appreciation against most ASEAN currencies, Chinese wage inflation may cause manufacturers to look more closely at ASEAN countries as sourcing alternatives. However, not all ASEAN members are in a position to benefit from such a move; several member states, such as Vietnam, Cambodia, and Indonesia, currently lack the infrastructure needed to support larger scale and more complex manufacturing. CEOs see business conditions improving in 2014 In the next year the overall economic situation in ASEAN will be:

ASEAN

53%

38%

9%

47

11

48

11

N=171

Singapore

Better Same

43

Worse

N=86

Malaysia

41 N=27

Thailand

32

61

8

N=38 Note: Percentages may not add to 100 due to rounding.

AEC will have a positive impact on business in ASEAN The impact of the 2015 economic integration on my business will be:

ASEAN 17%

53%

28%

1%

49

34

1

22

4

N=172

Singapore 16 N=86

Malaysia 19

56

Highly positive Somewhat positive Neutral Somewhat negative

N=27

Thailand 21

63

16

N=38 Note: Percentages may not add to 100 due to rounding.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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ASEAN RISING (continued) Talent shortages and increased trade competition are the most critical challenges facing regional businesses as ASEAN economic integration approaches ASEAN overall average rank Singapore Malaysia Thailand ASEAN INTEGRATION CHALLENGES

N=169

N=86

N=28

N=39

Increased competition from free trade

1

4

2

2

Greater competition for/shortage of management talent

2

3

1

3

Greater competition for/shortage of skilled labor

3

2

T10

1

Increased operating costs

4

1

3

T10

Overall compliance with new ASEAN integration policy

5

8

T8

5

Protectionism: fair competition across borders

6

T10

4

8

Retention challenges because of free movement of labor

7

9

T14

6

Complexity of labor regulation

8

5

T14

T15

Complexity of financial regulation

T9

6

T5

T10

More government regulation

T9

7

T10

14

Meeting uniform quality standards for products and services

11

12

7

7

Protection of intellectual property rights

12

T10

T5

18

Recognition of professional qualifications across borders

13

T17

T14

4

Integrating industrial clusters across the region to promote regional sourcing efficiencies

14

15

T8

T10

Transparency and effectiveness of cross-border trade dispute resolution mechanisms

15

14

T20

9

Efficient cross-border financial integration mechanisms

16

13

T12

20

Increased investment risk

T17

16

T14

19

Private/public sector conflicts

T17

T17

T18

17

Managing cross-border capital flows

19

20

T12

13

Greater supply chain risk

20

19

T20

T15

Interventionism from your home government

21

21

T18

21

N=Number of overall responses. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “Survey Methodology” on page 38.

16

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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MEETING THE TOP CHALLENGES IN ASEAN HUMAN CAPITAL The Critical Link to Enterprise Performance

Human capital

1

1

2

2

1

1

2

1

Global

Europe

Latin America

United States

Asia

ASEAN

China

India

In addition to being the top-ranked challenge globally and in ASEAN, Human Capital is closely linked to three of the next four top challenges in the region—Operational Excellence, Customer Relationships, and Innovation—through the importance of a talented, engaged, and properly motivated workforce. It is, in essence, the thread that runs through the other top challenges and forms the basis for strategic action. While response numbers are smaller for these samples, Human Capital is the first- or second-ranked challenge for CEOs in developed economies like Canada, Hong Kong, Singapore, and the United Kingdom as well as in the emerging markets of Brazil, Columbia, India, Malaysia, Peru, and Thailand.

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Inward-looking talent strategies In ASEAN, nine of the top 10 strategies (the only exception being require the use of analytics to articulate the business impact of key human capital initiatives and programs at number ten) selected by CEOs to tackle their Human Capital challenges are all internally focused and put an emphasis on current employees and their leaders.

ASEAN’s revolving door slowing? Slowing regional economies may mean that the perpetual revolving door of talent may not be swinging as fast. CEOs in ASEAN are focused on improving employee engagement (the number two Human Capital strategy in ASEAN) and up-skilling their existing workforce (provide employee training and development is number one in ASEAN); in contrast to the relatively low ranking for hire more talent on the open market, which is fourteenth in the region dropping from number three in 2013—this year CEOs in ASEAN give it the lowest ranking for that strategy in any global region.

Rewards and benefits CEOs in ASEAN give a relatively high ranking (fifth) to redesign financial rewards and incentives, which is in line with expectations of members of The Conference Board councils on human resources, talent management, and compensation and benefits in the region. Only CEOs in China give it a higher rank at number three. Members expect to see the runaway double-digit pay raises typical in tight regional markets (as well as in China in recent years) begin to level off as adjustments are made to reflect slower regional growth. Managing reward and internal equity in the region remains difficult since even within the same country different business lines experience varying degrees of success, but employees still expect compensation to be pegged to a company’s overall growth rate, not a specific business line or even individual performance. Weaning employees off yearly double-digit raises and tiering compensation packages more closely to individual and business unit performance is still an emerging concept and one difficult to sell to employees.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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“If we don’t have a highly engaged workforce and we don’t give people latitude or don’t give them enough scope to grow and learn, they just find another place to grow and learn.” Ramakrishnan Mukundan Managing Director and Chief Executive Officer Tata Chemicals Limited

18

Missed opportunity Despite the reality that education institutions can be a key resource to solve talent shortages and skill mismatches, CEOs in ASEAN rank invest in education systems to improve workforce readiness a lowly fifteenth out of 22 listed Human Capital strategies. With a pressing need across Asia-Pacific to coax the education system away from an addiction to academic results and toward the development of more business-ready skills and practical applications, ignoring the potential of public/private educational partnerships can be a missed opportunity. So, too, is the private sector’s reluctance to help educational institutions enhance English-language training—perhaps the biggest obstacle to developing global leaders in both multinational companies and large Asia-based firms.

Shunning contract workers Despite the growth of contract workers in many parts of the world and the apparent willingness of new generations of workers to embrace nontraditional work arrangements, CEOs in ASEAN, like their peers across the globe, do not place a high value on the strategy increase the use of contractual or contingent workers as a viable measure to cope with talent shortages. A tightening of the laws regarding contact workers in China and in some ASEAN countries has also dampened enthusiasm for this strategy.

Expat, go home The use of expats is decidedly not a top strategy when it comes to the Global/International Expansion challenge. Increase the use of expats to manage businesses locally is one of the lower ranked strategies to meet the expansion challenge in ASEAN (it is twelfth out of thirteen strategies) while develop local management talent for top roles, the number two strategy globally for that challenge, is relatively highly rated at number four in ASEAN.

Analytics and human capital Unlike their peers elsewhere, CEOs in ASEAN appear prepared to embrace the potential big data analytics has in the human capital space, particularly in strategic workforce planning. While require the use of analytics to articulate the business impact of key human capital initiatives and programs is one of the lowest ranked strategies to meet the Human Capital challenge globally, it is a top ten strategy in the ASEAN region.

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CEOs in ASEAN focus on up-skilling and engaging their workforces, as well as redesigning pay and incentives; they also see potential for big data in the HR space Global N=738

HUMAN CAPITAL STRATEGIES 2014

Europe

Latin America

United States

Asia

ASEAN

China

India

N=72

N=95

N=169

N=335

N=133

N=90

N=38

1

Provide employee training and development

T4

1

2

2

1

5

3

2

Raise employee engagement

2

6

1

5

2

8

1

3

Improve performance management processes and accountability

8

3

4

1

3

1

5

4

Increase efforts to retain critical talent

3

2

T5

6

7

4

2

5

Improve leadership development programs

1

4

T5

11

9

10

T6

6

Focus on internally developed talent to fill key roles

7

7

10

3

12

7

10

7

Enhance effectiveness of the senior management team

6

8

3

4

4

2

4

8

Improve effectiveness of front-line supervisors and managers

14

5

7

T7

6

6

8

9

Improve corporate brand and employee value propositions to attract talent

T4

13

12

T7

11

9

16

10

Improve succession planning for current and future needs

T10

9

8

10

8

15

T6

11

Hire more talent in the open market

T10

11

9

12

14

11

11

12

Redesign financial rewards and incentives

19

12

13

9

5

3

12

13

Promote and reward entrepreneurship and risk taking

13

10

11

13

16

12

9

14

Increase diversity and cross-cultural competencies

9

17

T15

14

13

14

T14

15

Expand talent pools by recruiting nontraditional workers

12

19

18

17

19

18

T14

16

Invest in education systems to improve workforce readiness

T17

15

14

18

15

17

13

17

Pay more attention to labor relations issues

16

16

21

15

17

13

T19

18

Manage multigenerational workforce

15

14

20

T20

18

T20

22

19

Require the use of analytics to articulate the business impact of key human capital initiatives and programs

T21

18

17

16

10

16

17

T20

Increase the use of contractual or contingent workers

T21

21

T15

T20

20

22

T19

T20

Encourage use of social media for talent recruitment and acquisition

T17

22

19

19

22

19

18

22

Decrease the use of contractual or contingent workers

20

20

22

T20

21

T20

T19

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy. For information about how the scores were created, see “Survey Methodology” on page 38.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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Leadership matters

“So, when we’re talking about talent or lack of talent, for more organizations and for ours—it creates a barrier to growth. In other words, growth is very dependent on the talent that we have. So, if we have good talent available, then we seem to achieve a lot more.” Lee Weng Chong President – Asia Pacific Trelleborg Sealing Solutions

This year, CEOs were asked to identify the leadership attributes and behaviors they believed critical to future success. There is a great deal of convergence about what it means to be an effective leader in any region as four of the global top five were found in each region’s top seven: integrity, leading change, managing complexity, and entrepreneurial mindset. Regional differences include CEOs in Europe and The United States who believe in the greater value of articulating a vision and Latin American CEOs who believe that inspire innovation is a winning strategy. ASEAN CEOs include creativity in their top five attributes and, to re-enforce their commitment to sustainability, rank focus on sustainability sixth—the highest ranking for any global region. As businesses expand across borders, CEOs in the rest of Asia believe global thinking/ mind-set will be a critical attribute for future leaders. They give it the highest ranking (second) by far compared to their global peers (it is ninth within ASEAN), who may be more confident that this trait is already present in their leadership bench. To underscore the importance of innovation to the future, they rank entrepreneurial mind-set as the top attribute required of future leaders in Asia. It is third within ASEAN.

Rankings of future leadership attributes reflect the future business focus in each region; integrity, leading change, and managing complexity are foundational for any future leader Global N=1,018

LEADERSHIP ATTRIBUTES AND BEHAVIORS 2014

Europe

Latin America

United States

Asia

ASEAN

N=105

N=114

N=233

N=477

N=180

1

Integrity

1

1

2

T4

2

2

Leading change

3

2

1

3

1

3

Managing complexity

2

4

3

T4

4

4

Entrepreneurial mind-set

5

7

6

1

3

5

Retaining and developing talent

T7

3

5

6

8

6

Global thinking/mind-set

T7

10

T9

2

9

7

Articulating a vision

4

9

4

14

11

8

Inspire innovation

6

5

7

8

7

9

Learning agility

12

11

8

7

12

10

Collaboration

T10

12

T9

9

13

11

Creativity

9

6

12

12

5

12

Self-awareness

T15

15

T9

13

17

T13

Focus on sustainability

T10

14

T14

T10

6

T13

Influence skills

T15

8

13

T10

14

T15

Cultural sensitivity

13

13

T14

16

T15

T15

Building networks

14

16

T14

15

10

17

Address government regulation

NR

17

17

17

T15

N=Number of overall responses. NR=Attribute was not ranked by any of the respondents. T=Tie.

20

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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The Future ASEAN Leader: Leading Growth and Change in a Borderless World It’s a new era for the ASEAN community, one that will require a new brand of leadership that blends the best of relevant Asian social traditions and cultural norms with a global mindset, the demands of speed, crossboundary collaboration, and assertiveness. But what does this new leadership style, one that is unique to ASEAN but recognizable on the world stage, really look like? And how do you get there? The Conference Board researchers thought these are questions that are simply too big for one person, or one organization to answer effectively, and created the ASEAN Leadership 2.0 Project: an ongoing crowd-sourced dialogue focused on developing leadership solutions for the ASEAN business community by the ASEAN business community. At the heart of the ASEAN Leadership 2.0 Project is the Un-conference—a new type of interactive event utilizing live in-person facilitated breakout sessions, informal discussion groups, live polling, and multiple social media channels to define the development of future leaders in the region. The initial Un-conference took place in Kuala Lumpur, Malaysia June 23–25, 2013. Harnessing the power of co-creation and crowdsourcing to find peer-developed solutions and best practices to the leadership puzzle, The Conference Board Un-conference brought together more than 120 of the region’s most experienced human capital practitioners, senior business executives, and industry experts representing more than 60 organizations for a two-day deep dive into the essentials of leadership. In a true spirit of peer assist, there were many questions answered; but there were also many answers questioned.

www.conferenceboard.org

New Leaders for a New Era Too often, organizations use yesterday’s tools and lenses to develop tomorrow’s leaders. The new era in intra-ASEAN cooperation, globalization, transformed business models, faster information flows, more intense competition, and greater diversity in workforces and markets means leadership styles need to change if the region is to reach its full potential. With hopes to transform the region into a single ASEAN Economic Community with enhanced global geopolitical and economic clout, the notion of what an effective leader is, and needs to be, is being challenged. Looking ahead, for ASEAN leaders to be effective on both a regional and a global level, they will need to honor tradition but embrace progressive change. They must be assertive, tech savvy, adaptable, mobile, ethical, able to influence, open to criticism, willing to learn and unlearn continuously, and be talent optimizers and developers while driving above-average organizational performance. In short: a very tall order. The message from participants in the ASEAN Leadership 2.0 Project could not be clearer: If you are a leader today be warned—what got you where you are is not going to be enough to keep you there in the future. While much is made of “imported” leadership competency models, characteristics, and behaviors, participants in the ASEAN Leadership 2.0 Project believe that while there is considerable overlap of critical attributes for effective leaders everywhere, there are important and sometimes subtle differences that define an effective ASEAN leader as well as shortcomings that need to be addressed.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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The Future ASEAN Leader: Leading Growth and Change in a Borderless World (continued) Before and after: the new ASEAN leader Hierarchical

Greater emphasis on global mindset

Command and control

More empowerment down the ranks

Solution bank Prescriptive “Follow me” type

More influencing than directing Tolerance to moderate failure: see failure as an opportunity to learn Leaders surrounding themselves with equally competent leaders

“Be like me” type Superheroes

Able to accept sugar-free feedback Mobile More geared toward the younger generation Talent developers: able to cascade talent development responsibilities to all levels of management—talent development should no longer be confined to selected top management Accountable to stakeholders/shareholders

The current state

The go-to state for the future

An ASEAN leader is… Capable of greatness

Versatile

Driving results that matter A catalyst of change and a connector of cultures

Better able to handle a VUCA world One who adapts the fastest, decides the fastest, and maintains the speed

Able to connect people

Professional

Visionary and innovative

Well-rounded

Strategic collaborator

Connected, insightful, and driven

Dynamic

22

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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The Future ASEAN Leader: Leading Growth and Change in a Borderless World (continued) From two days of rich interaction, delegates at The Conference Board Un-conference wrestled with the challenges of what it means to be a leader in ASEAN not only today, but more importantly tomorrow. Among the discoveries that surfaced at the Un-conference and in a regional survey released at the meeting:

education systems and employer needs in the region match; and integrate the talent supply with industry demands.

About future leaders • The future leader Among the personal attributes required of future ASEAN leaders: collaborative, self-aware, ethical, and assertive. Among the competencies: ability to manage change; to influence and be influenced; to communicate and tell stories; to manage global virtual teams; to be a talent optimizer—a leader that focuses on talent nurturing and development; and a team and network builder.

The business environment • The future is now ASEAN Leadership 2.0 Project participants believe the economic, demographic, environmental, regulatory, and political forces that will drive change in future leadership models are already coming fast and furious to the region. Among the key drivers that will have an impact on organizations and leadership styles: the opening of new markets, shortened business cycles, speed in innovation, talent shortages, gender and generational differences, and the rise of the digital age.

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Shortage of talent A total of 84 percent of ASEAN respondents say it is difficult or very difficult to find, develop, deploy, and retain local leaders.

Not ready Some 89 percent of project participants say they expect the challenges for ASEAN leaders to increase in next three years; but 50 percent believe their organizations do not have the bench strength to meet these challenges and another 35 percent say they probably do not have it.

The role of education Participants think education institutions can be a key resource to solve talent shortages and skill mismatches. Among their recommendations: move away from academic results to addon skills/practical applications; enhance English language training since writing and communication skills are a barrier in cross movement of talent; align courses so

Common traits and differences While there are common traits that define effective leaders everywhere in the world, leadership in ASEAN requires a unique mix of assertiveness and sensitivity. They must be able to connect with employees at all levels and influence people to follow. Where leaders in the West seem to focus more on personal traits such as charisma, ASEAN leaders are more focused on implementation and execution.

Hearts and minds In a borderless world economy, cultural competency and sensitivity matters more than ever. Globalization and regionalization are putting more pressure on managers in ASEAN, a region already rich in cultural diversity, and thrusting them into often unfamiliar cross-cultural leadership situations. Participants in the ASEAN Leadership 2.0 Project believe the most effective leaders in the region “manage with both their minds and their hearts.”

Dealing across sectors There is a need for tri-sectoral leaders who are able to move seamlessly through government, the private sector, and civil society. The ability to effectively network between these three overlapping spheres will be crucial.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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The Future ASEAN Leader: Leading Growth and Change in a Borderless World (continued) •

Judgment day The performance of almost all leaders is judged by the business results they deliver, while many are also judged on how they effectively manage the organization’s primary asset—talent—and on building effective teams. The single most cited reason for failure: poor performance, followed by arrogance and insensitivity.

Not so mobile As organizations in ASEAN grow and expand, the demand for having a truly mobile leadership team increases. But mobility is hard to come by: less than 20 percent of survey respondents see their leadership teams as very mobile. Hidden within those numbers is the idea of “selected mobility” where leaders are only willing to physically relocate to “cushy” assignments such as London, Paris, or Singapore.

The challenge of technology • Not-so-wired leaders While most ASEAN Leadership 2.0 Project participants believe that being a “wired” leader improves leadership effectiveness, most say their leaders still have a way to go before being fully comfortable with technology. And perhaps more telling, 88 percent of respondents say they do only an adequate or poor job in supporting them.

Challenges in development • The need for empathy Often the focus within organizations and the HR function is on the challenges faced by those who do leadership development rather than those being developed. ASEAN Leadership 2.0 Project delegates believe it is critical for talent managers and human capital professions to be empathic from the point of view of those that are learning. Among the challenges faced by the learners: time conflicts, clashing organizational priorities, and regional language barriers.

Not keeping up While 80 percent say they have a leadership model in place; a sizeable minority says they have not altered their models in the past three years to deal with the new global and regional business environments.

Going local on leadership development Most ASEAN organizations do at least some adaptation of their leadership development programs to reflect diverse perspectives globally and regionally, but fewer have taken into account regional differences to define what makes a good leader. Almost three-fourths (72 percent) of participants in the ASEAN Leadership 2.0 Project say there is some (57 percent) or a great deal (15 percent) of adaptation in their leadership programs to reflect diverse perspectives. But just 56 percent say there is some (49 percent) or a great deal (7 percent) of distinction when it comes to local leadership qualities.

Social media is a double-edged sword Social media is on the rise in ASEAN, but companies are less sure about its impact. While almost two-thirds (64 percent) of participants in the ASEAN Leadership 2.0 Project say their organizations have embraced social media (and another 18 percent say they are planning on it) measuring its effectiveness is proving to be a challenge. Just over half (53 percent) say social media has enhanced their company’s brand and reputation but some 40 percent say they cannot tell what the exact impact has been.

Source: Charles Mitchell, Rebecca L. Ray, and Bart van Ark, The Future ASEAN Leader: Leading Growth and Change in a Borderless World, The Conference Board, Report Number 1536, March 2014.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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OPERATIONAL EXCELLENCE Reshaping Organizational Culture and the Work Environment to Improve Performance While Keeping a Hard Focus on the Bottom Line

Operational Excellence

4

4

1

3

3

2

3

2

Global

Europe

Latin America

United States

Asia

ASEAN

China

India

While CEOs may not be able to exert personal control over economic or political risks, customer purchasing decisions, government regulations, competitor behaviors, or game-changing technology developments, they can control how their company operates. Operational Excellence is truly “the challenge they control,” and in a slow-growth economic environment, the ultimate key to competitive advantage. Just as there is a culture of innovation, so is there a culture of excellence—and often the two can clash. One way CEOs in ASEAN are exerting control is through a focus on cash management. One struggle CEOs face is managing the trade-off between driving innovation, holding the line on costs, and maintaining high-quality execution of day-to-day operations. But sometimes they can all get in the way of each other; there is a natural tension between innovation-focused staff and operational-focused staff—the creatives versus the doers and the bean counters. Innovation is disruptive, and those involved have a much different view of risk and costs than those responsible for operational execution. Much also depends on the specific business involved: commodity-type businesses such as low-tech manufacturing are driven by excellence in execution to maintain margins, while other businesses such as electronics or technology are innovation driven. Even the maturity of a business or product line can dictate the managerial approach and the type of culture needed to succeed. A newly created business, for example in the services sector, which is more knowledge driven, may find that culture clearly developed with an innovation bias. But then as the product or service offering ages, it becomes more and more driven by operational excellence to be successful. The challenge within ASEAN is maintaining both cultures in the same company with a diverse product line while keeping costs in check.

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Shaping culture but watching costs The strategies selected by CEOs in ASEAN to meet “the challenge they control” relate to reshaping the work environment and culture to improve performance, but ASEAN CEOs are also far more focused than their global peers on the bottom line and cash management issues. Improve our organizational agility/flexibility and raise employee engagement to drive productivity are two of their top five strategies to meet the Operational Excellence challenge; but in a reversal from 2013, CEOs in the region are closely watching costs. Focus on reduction of baseline costs, the number twelve ranked strategy in 2013, jumps all the way up to number two in 2014; while improve cash management, number ten in 2013, climbs to number three in 2014. Improve capital investment decision process is now the eleventh-ranked strategy in ASEAN up from number 23 in 2013. The increased importance of these cost-focused strategies is in direct contrast with mature economies where these issues have declined considerably between last year and this year.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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26

Mission accomplished? From the significant drop in the rankings, it would appear that ASEAN CEOs believe that enough work has been done in the past year in the Operational Excellence category regarding tearing down functional silos within their organizations. Break down internal silos, the number three strategy in 2013, falls all the way to number 12 in 2014 as CEOs in the region turn their attention to more finance-related issues.

Tech solutions CEOs in ASEAN are also relying on technology to help them improve operational efficiency. Invest more in new technologies and better align IT with business goals are listed as two of the top ten strategies to meet this challenge.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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In ASEAN the focus is on cost control and cash management Global N=754

OPERATIONAL EXCELLENCE STRATEGIES 2014

Europe

Latin America

United States

Asia

ASEAN

China

India

N=75

N=92

N=183

N=335

N=126

N=95

N=31

1

Seek better alignment between strategy, objectives, and organizational capabilities

T2

5

1

1

7

2

T1

2

Improve our organizational agility/flexibility

1

1

3

5

1

5

4

3

Raise employee engagement to drive productivity

4

2

2

2

4

1

3

4

Improve performance and accountability of senior management

5

8

5

T7

T13

3

T6

5

Improve performance and accountability of middle management

T2

3

T6

T7

10

4

T6

6

Invest more in new technologies

8

T10

T6

4

5

10

T9

7

Redesign business processes

7

6

T10

6

8

11

T1

8

Achieve economies of scale through product/process standardization and harmonization

15

13

9

3

T15

7

T18

9

Continual improvement (Six Sigma, total quality, etc.)

9

7

4

12

6

12

8

10

Achieve economies of scale through organic business growth

10

T10

T10

10

17

9

11

11

Better align IT with business goals

6

12

T10

15

9

18

5

12

Focus on reduction of baseline costs

T11

16

13

14

2

19

T9

13

Break down internal silos

T11

21

8

18

12

16

12

14

Improve cash management

24

15

15

9

3

8

16

15

Reduce management layers

14

14

20

16

18

17

T21

16

Better align executive compensation and incentives with business performance

T21

9

16

13

T13

6

15

17

Improve speed to market

19

4

14

23

T15

26

14

18

Enhance the effectiveness of board governance

25

18

T17

11

21

15

T18

19

Improve capital investment decision process

T21

T19

T17

20

11

14

T21

20

Ensure supply chain integrity

20

17

21

19

20

13

T18

T21

Deepen integration of global operations

23

T19

22

17

22

22

NR

T21

Achieve economies of scale and/or synergies through mergers and acquisition

13

T23

19

22

T25

20

T21

23

Secure lower costs for materials and other input resources

17

25

T25

21

19

21

13

24

Consider sourcing opportunities globally

16

T23

24

25

T23

NR

25

25

Better manage outsourced operations and offshore operations

18

22

23

24

T23

25

17

26

Optimize number of global suppliers

27

26

T25

26

T25

23

24

27

Decrease carbon footprint/resource use

26

27

27

27

T25

24

NR

N=Number of overall responses. NR=Strategy was not ranked by any of the respondents. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “Survey Methodology” on page 38.

www.conferenceboard.org

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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CUSTOMER RELATIONSHIPS Rise of the Value-conscious Customer

Customer Relationships

2

3

3

1

4

3

5

5

Global

Europe

Latin America

United States

Asia

ASEAN

China

India

It looks like 2014 is the year customers are finally getting their due. CEOs around the globe and in ASEAN appear to have refocused on the importance of customers and their relationship with them. In many regions, especially in emerging markets, the key to future growth (and survival) centers on connecting with the emerging middle class and their changing needs as more sophisticated and quality- and value-conscious consumers. The aspirational part of consumer demand is growing, especially in the ASEAN countries. Globally, CEOs rank Customer Relationships as their second most critical challenge after Human Capital. It is third within ASEAN and even in China, a country not particularly well known for its customer-centric approach to business, CEOs rank Customer Relationships as a top-five challenge—recognition that growth and market share will be harder to win as the economy slows. More important, CEOs speak of a clear shift in the nature of their relationship with customers. On the business-to-business side, it is moving from a relationship-based culture to a value-driven one. While relationships are still important, you have to prove constantly that you are bringing value—an edge—to your customers. It is no longer just about quality products or services; it is about exceeding the customer’s very high expectations—and customers have long memories. The supplier-buyer relationship is evolving to more of a partnership that is centered on strategic goals (sustainability, for example, to make the supply chain less carbon-intensive) rather than just financial ones. Consumers and customers are expecting companies to act like their friends, to do the right thing proactively. On the business-to-consumer side, as traditional brick-and-mortar retail gives way to online shopping around the world, sellers need more than ever to concentrate on their customers. While big data—a top hot-button issue for CEOs globally—is critical to efficiently targeting customers and clients, there is a tendency (as exhibited by the low ranking of incenting customer-facing employees as a strategy to meet the Customer Relationships challenge not only in ASEAN but globally) to lose focus on the “hightouch” part of customer relations. In Asia especially, the combination of “high tech” and “high touch” is a cultural imperative.

28

Mixed strategies CEOs in the ASEAN region (as well as their peers globally) are looking at a mix of greater understanding of their customers’ needs, personal commitment, and better quality products to meet this challenge. Sharpen understanding of customer/client needs is the number one strategy globally and in ASEAN. CEOs in the region also see personal outreach as critical. Engage personally with key customers/clients is the number three strategy in ASEAN to meet this challenge and a top five strategy in each region. It is crucial to developing a truly customer-centric organization.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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The conflict between speed and quality CEOs in ASEAN are highly focused on both speed to market and quality products to win the customer relationship battle. Their number two strategy is enhance quality of products/services, while increase speed of products and services to market is fourth. Making the decision as to when a new product or service is “good enough” to go to market is really about risk assessment. While time-to-market decisions can be an important determinate of a product or service’s success or failure, it is certainly not the only factor and companies in Asia are notorious for choosing speed over quality at launch time.

Customer front-liners ignored While it is possible to electronically capture and measure every customer interaction, CEOs in ASEAN are in danger of overlooking a critical element—their customer-facing staff. Arguably the most effective way to communicate your brand promise is through front-line employees, yet CEOs are not grasping that the customerfacing people are the brand. Provide incentives for front-line employees to improve customer engagement is the twelfth-ranked strategy in ASEAN to meet the Customer Relationships challenge, representing a lost opportunity.

Hearing the voice of the customer is critical to improving customer relationships; ASEAN CEOs trying to improve quality and increase speed to market Europe

Latin America

United States

Asia

ASEAN

China

India

N=76

N=74

N=183

N=305

N=108

N=90

N=29

1

Sharpen understanding of customer/ client needs

1

2

1

1

1

2

1

2

Enhance quality of products/services

2

1

4

2

2

1

3

3

4

2

3

3

6

2

5

7

3

5

5

5

9

7

T11

5

4

8

8

T7

6

9

11

7

9

7

4

4

5

9

9

4

9

5

9

3

7

10

7

11

T7

T11

6

12

6

12

4

10

8

8

6

11

10

10

13

10

10

8

12

11

12

11

Global N=699

3 4 5 6 7 8 9 10 11

CUSTOMER RELATIONSHIPS STRATEGIES 2014

Engage personally with key customers/ clients Tailor marketing, promotion, and communications campaigns to key customer needs Broaden range of products/services Increase transparency of customer relationship processes Increase speed of products and services to market Use competitive intelligence to better understand customer/client needs Provide incentives for front-line employees to improve customer engagement Increase user-friendliness of products/ services Use social media and new communication technologies

12

Promote sustainable products/services

13

T11

13

8

6

3

12

13

Employ new metrics on customer engagement and retention

T11

13

10

13

14

14

6

14

Lower price of products/services

14

14

14

14

13

13

14

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy. For information about how the scores were created, see “Survey Methodology” on page 38.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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GOVERNMENT REGULATION Getting Your Own House in Order

Government Regulation

7

9

5

T5

8

4

9

6

Global

Europe

Latin America

United States

Asia

ASEAN

China

India

Despite its fall to seventh in the global ranking of challenges in 2014 (it was number four globally in 2012 and sixth in 2013), Government Regulation remains a top five challenge in the ASEAN region as CEOs gear up to deal with the implementation of the AEC in the years ahead. CEOs across the globe generally see regulatory compliance as a moving target that complicates long-term strategic planning and investment and talent decisions. The challenge, especially in emerging markets, is often not just regulation but alignment with myriad overarching government policies—often vague, contradictory, or unclear—to create the “regulatory space” needed to access new markets, obtain approvals and regulatory dispensations, or defend existing businesses. It is no surprise that Government Regulation remains a critical challenge for CEOs in ASEAN—a fact underscored by the high ranking given regulatory-related issues by ASEAN CEOs when questioned about the challenges presented by the implementation of the AEC (see “ASEAN Rising,” on p. 15). However, it is clear that ASEAN CEOs do see opportunity in this challenge as well, as they rank focus on competitive opportunities created by regulation as a top five strategy to deal with this challenge. They clearly see the dichotomy inherent in regulation and its impact on business: it can either be an impediment to growth or an impetus to innovate new products, processes, and business models to gain competitive advantage over slower moving rivals. Compounding the fallout from government-led regulation is that trade and industry organizations are requiring more uniform standards of practice and reporting (a goal of the AEC). Leaders within ASEAN must become more comfortable with the levers of governance and with oversight from the outside, including specific countries’ regulations, as the AEC comes to fruition. After all, the costs of non-compliance, especially for corporate and personal reputation, can be steep. This concern is represented by the relatively high ranking (it is third, the highest ranking for this strategy in any region) of strengthen understanding of international laws and other rules of business conduct as one way to meet this challenge.

30

Compliance and engagement To meet the Government Regulation challenge, CEOs in the ASEAN community are looking to get their own houses in order as 2015 approaches, placing great emphasis on compliance and public engagement. Besides their concern with a better understanding of international laws, they rank strengthen internal regulatory compliance processes as their top strategy, and give the highest ranking globally to engage with the public to influence government (it is second) as a strategy to meet the regulatory challenge. They also appear more comfortable engaging with competitors to influence the regulatory agenda; is their fourth-ranked strategy in 2014, up from number seven in 2013.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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No direct contact Among their peers globally, CEOs in ASEAN are less willing to make personal contact with regulators to influence the agenda. They rank personally spend more time with regulators near the bottom of their strategy list at number ten. It is number four globally, and third in the rest of Asia as well as China. In India it is the number one strategy.

ASEAN CEOs seek first to get their own houses in order; they also want to better understand crossborder regulations in advance of AEC implementation Global N=425

1 2 3 4 5 6 7 8 9 10

11 12 13

GOVERNMENT REGULATION STRATEGIES 2014 Strengthen internal regulatory compliance processes Focus on competitive opportunities created by regulation Engage with competitors to influence regulatory agenda Personally spend more time with regulators Increase lobbying activities to promote a level playing field Engage with the public to influence government Encourage more industry selfregulation Use media more effectively to get story told Engage in public/private partnerships Strengthen understanding of international laws and other rules of business conduct Relocate to countries with fewer restrictions and less government oversight Increase corporate spending on political campaigns Consider delisting from certain stock exchanges

Europe

Latin America

United States

Asia

ASEAN

China

India

N-45

N=58

N=95

N=183

N=79

N=37

N=23

4

3

3

1

1

1

2

6

1

1

2

5

2

4

2

4

2

4

4

6

5

3

2

8

3

10

3

1

1

7

4

7

9

4

9

8

6

5

5

2

5

7

7

5

9

6

6

9

3

5

10

7

9

7

10

6

10

9

6

10

8

7

10

9

8

10

8

3

8

8

11

11

12

11

11

12

11

NR

T12

11

12

NR

11

NR

NR

T12

13

NR

NR

NR

NR

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy. For information about how the scores were created, see “Survey Methodology” on page 38.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

31


INNOVATION It’s Not about Money; it’s about Culture

Innovation

T3

2

4

4

2

5

1

T3

Global

Europe

Latin America

United States

Asia

ASEAN

China

India

Investment in R&D and science and technology is the key for emerging markets to escape from the “race to the bottom” of having to compete on labor-intensive, low-value goods production even while labor costs are rising as the economies advance. Many emerging economies in ASEAN are making those investments, but they take time to pay off—a challenge in a slow-growth global economy.

Defining Innovation Innovation is creating value through new products, new processes, business models, and organizational structures to meet and anticipate customer demands and remain competitive in a global marketplace.

32

Culture is overtaking technology as the critical enabler of innovation. The scarcity within economies is not the technology tools needed to innovate but rather the ability and people skills to do it correctly. In other words, you need an innovative culture to make use of the technology tools—most important, you need the people to execute innovation. All of this is manifested in the strategy choices of CEOs in this year’s survey. Create culture of innovation by promoting and rewarding entrepreneurship and risk taking is the number one strategy globally as well as in ASEAN, Europe, the United States, and Latin America. Technology remains a critical enabler of innovation throughout Asia— apply new technologies is tied for number one there, an indication that tech can still play an even more important role in fueling growth in labor-intensive economies than it can in the more mature, capital-intensive ones.

The link to human capital Four of the top six strategies to support innovation in ASEAN are related to people. Create culture of innovation by promoting and rewarding entrepreneurship and risk taking; develop innovation skills for all employees; and find, engage, and incentivize key talent for innovation are in the ASEAN top five as well as globally. Based on these high-ranked strategies, it is clear that the human capital function plays a critical role in developing the proper environment that allows innovation to flourish. Often this connection is underappreciated in organizations. The high ranking of develop innovation skills for all employees points to the realization that truly innovative companies open innovation to the entire enterprise rather than reserving the task of creativity for a specially chosen few within an organization.

Tech driven Much of Asia (including the ASEAN nations) is still focused on the quick gains that technology can add to productivity in emerging labor-intensive economies. CEOs in ASEAN rank apply new technologies (product, process, information, etc.) as their number four strategy to drive Innovation (it is tied for first in Asia). This emphasis on technology as a quick fix is also reflected in the Operational Excellence category, where they also give the highest ranking among their global peers to a tech-driven solution: invest more in new technologies is the number five strategy to improve operational performance and it is fourth in Asia.

Not a Western monopoly…but For ASEAN countries, the focus on innovation underscores the attempt of emerging economies to move up the global value chain as they transform from cheap sources of product manufacturing to product creators and innovators. For many of these emerging economies, the quest is no longer a product label that says “Made in” but rather one that boasts “Designed in” or “Created in.” But executives based in the region tell The Conference Board that innovation is still focused on an “East for East” model, meaning

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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they are conducting more region-specific incremental innovation of products and services rather than developing new output for the rest of the world. In the case of Western multinationals with R&D centers in Asia, legal issues about technology sharing and concerns about IP protection mean these centers often only have access to older technology and cannot truly compete with R&D centers in more secure regions that employ the latest tools and software in an open and sharing environment. The scarcity of entrepreneurial engineers comfortable with risk taking also holds back more profound and basic innovation in the region.

No government help ASEAN CEOs do not see government playing a role as an innovation partner, even in China, where innovation is a pillar of economic transformation. Seek government support and funding for research and development is the bottom-ranked Innovation strategy globally and in ASEAN.

Co-creation CEOs in ASEAN recognize that to maximize their innovation potential, they need to pursue partners outside their corporate walls. Engage in strategic alliances with customers, suppliers, and/or other business partners continues to be a critical strategy. It is fifth in ASEAN.

Open innovation CEOs in ASEAN are more determined than their peers to pursue open innovation concepts as part of their strategies to meet the Innovation challenge. They rank pursue open innovation concepts at number seven (only Europe is higher at number four).

CEOs in ASEAN see creating a culture of innovation as a key enabler of success Global N=648

1 2 3 4

INNOVATION STRATEGIES 2014 Create culture of innovation by promoting and rewarding entrepreneurship and risk taking Apply new technologies (product, process, information, etc.) Find, engage, and incentivize key talent for innovation Engage in strategic alliances with customers, suppliers, and/or other business partners

Europe

Latin America

United States

Asia

ASEAN

China

India

N=61

N=77

N=149

N=301

N=109

N=99

N=31

1

1

1

3

1

10

2

2

3

3

T1

4

3

5

5

T4

5

T1

2

2

1

6

T4

2

6

5

1

3

5

Develop innovation skills for all employees

8

2

4

5

6

5

4

6

Change business model

3

10

10

8

3

4

11

7

9

9

4

9

6

6

9

7

7

7

10

7

T9

10

6

6

9

11

8

7

7 8 9

Invest more in long-term research and development Leverage expertise of senior leaders to develop high potentials and transfer knowledge Encourage more product-specific incremental innovation for the short term

10

Pursue open innovation concepts

4

12

11

11

7

9

8

11

Leverage competitive business intelligence

11

8

8

14

8

14

T9

12

11

12

12

13

12

15

14

14

13

10

T14

11

13

13

15

14

13

12

13

12

15

13

15

15

T14

15

14

12 13 14 15

Use social media tools for internal knowledge sharing Support the strengthening of intellectual property and patent protection Increase use of third-party providers to conduct research and development Seek government support and funding for research and development

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy. For information about how the scores were created, see “Survey Methodology” on page 38.

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

33


APPENDIX TABLES Top five strategies to meet the next five challenges in the ASEAN region

1 Sustainability

2 Corporate Brand

3 Global Political/

4 Global

5 Trust in

1

Ensure sustainability is part of the corporate brand identity and culture of the organization

Communicate corporate values to customers and key stakeholders

Get board more actively involved in enterprise risk management

Enter new geographic markets with existing products/services

Better communicate corporate values within the organization

2

Engage with stakeholders to manage short-term performance pressures with long-term sustainability goals

Enhance quality of products and processes

Manage currency risk

Form joint ventures in target geographic markets

Increase collaboration with other companies, governments, and civil society to deliver societal value

3

Improve sustainability measurement and reporting

Improve alignment of business practices/ management behavior with corporate values

Improve our organizational agility/ flexibility

Grant distribution rights to strategic business partners in new markets

Make sure the quality and safety of products and services are delivered consistently at a fair price

4

Incorporate social and sustainability goals into corporate strategic performance objectives

Redefine corporate brand positioning

Reduce exposure to risky countries/regions

Develop local management talent for top roles

Ensure ethics compliance throughout the extended supply chain

5

Encourage improvements in sustainability performance from suppliers and other business partners

Ensure ethical accountability throughout the organization

Improve access to credit

Introduce new “localized� products/ services for customers/ clients in new geographic markets

Better manage social media to benefit company and limit negatives

34

RESEARCH REPORT The Conference Board CEO ChallengeÂŽ 2014: ASEAN Edition

and Reputation

Economic Risk

Expansion

Business

www.conferenceboard.org


Top five strategies to meet the top five challenges in Singapore

1 Human Capital N=64

2 Operational Excellence N=57

3 Customer

Relationships

4 Innovation N=59

N=55

5 Global/International Expansion N=35

1

Raise employee engagement

Raise employee engagement to drive productivity

Enhance quality of products/services

Engage in strategic alliances with customers, suppliers, and/or other business partners

Develop local management talent for top roles

2

Provide employee training and development

Improve our organizational agility/ flexibility

Engage personally with key customers/clients

Create culture of innovation by promoting and rewarding entrepreneurship and risk taking

Enter new geographic markets with existing products/services

3

Improve performance management processes and accountability

Seek better alignment between strategy, objectives, and organizational capabilities

Sharpen understanding of customer/client needs

Apply new technologies (product, process, information, etc.)

Form joint ventures in target geographic markets

4

Increase efforts to retain critical talent

Improve performance and accountability of middle management

Increase speed of products and services to market

Develop innovation skills for all employees

Grant distribution rights to strategic business partners in new markets

5

Focus on internally developed talent to fill key roles

Redesign business processes

Use competitive intelligence to better understand customer/ client needs

Find, engage, and incentivize key talent for innovation

Expand and diversify supply chain geographically

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RESEARCH REPORT The Conference Board CEO ChallengeÂŽ 2014: ASEAN Edition

35


Top five strategies to meet the top five challenges in Thailand

1 Human Capital N=32

2 Operational Excellence N=30

3 Customer

Relationships

4 Innovation N=26

N=24

5 Global Political/ Economic Risk N=16

1

Improve leadership development programs

Seek better alignment between strategy, objectives and organizational capabilities

Sharpen understanding of customer/client needs

Create culture of innovation by promoting and rewarding entrepreneurship and risk taking

Integrate long-term risk recognition into strategic planning

2

Enhance effectiveness of the senior management team

Raise employee engagement to drive productivity

Enhance quality of products/services

Engage in strategic alliances with customers, suppliers, and/or other business partners

Improve our organizational agility/ flexibility

3

Improve performance management processes and accountability

Improve performance and accountability of middle management

Tailor marketing, promotion, and communications campaigns to key customer needs

Apply new technologies (product, process, information, etc.)

Get board more actively involved in enterprise risk management

4

Raise employee engagement

Improve our organizational agility/ flexibility

Engage personally with key customers/clients

Find, engage, and incentivize key talent for innovation

Update contingency plans for crises (e.g., geographical, political, relocation of employees)

5

Improve succession planning for current and future needs

Continual improvement (Six Sigma, total quality, etc.)

Increase transparency of customer relationship processes

T5 Develop innovation skills for all employees

Review effectiveness and composition of crisis management teams

T5 Pursue open innovation concepts

36

RESEARCH REPORT The Conference Board CEO Challenge速 2014: ASEAN Edition

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Top five strategies to meet the top five challenges in Malaysia

1 Human Capital N=23

2 Sustainability N=17

3 Operational Excellence N=21

4 Government Regulation N=15

5 Corporate Brand and Reputation N=15

1

Increase efforts to retain critical talent

Ensure sustainability is part of the corporate brand identity and culture of the organization

Raise employee engagement to drive productivity

Strengthen internal regulatory compliance processes

Improve alignment of business practices/ management behavior with corporate values

2

Improve performance management processes and accountability

Incorporate social and sustainability goals into corporate strategic performance objectives

T2 Continual

Focus on competitive opportunities created by regulation

Communicate corporate values to customers and key stakeholders

3

Provide employee training and development

Engage with stakeholders to manage short-term performance pressures with long-term sustainability goals

T2 Improve our

Personally spend more time with regulators

T3 Enhance quality

4 T4 Improve

Enhance portfolio of sustainable products and services

Break down internal silos

Encourage more industry self-regulation

T3 Ensure ethical

5 T4 Enhance effective-

T5 Incorporate social

Seek better alignment between strategy, objectives and organizational capabilities

Strengthen understanding of international laws and other rules of business conduct

Redefine corporate brand positioning

succession planning for current and future needs

ness of the senior management team

and sustainability goals into individual employee performance objectives

T5 Foster research and development in sustainable technologies

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improvement (Six Sigma, total quality, etc.)

organizational agility/flexibility

of products and processes

accountability throughout the organization

RESEARCH REPORT The Conference Board CEO ChallengeÂŽ 2014: ASEAN Edition

37


ABOUT THIS REPORT Survey Methodology

Definition of Challenges

This report is based on responses from CEOs, presidents, and chairmen to The Conference Board CEO Challenge survey, distributed between September and October 2013. Respondents were asked to rank order their top five challenges from a list of 10.

Corporate brand and reputation How your organization and its products and services are viewed by stakeholders

To reach the aggregate ranking of challenges and to develop an importance-adjusted score, two additional computations were conducted. First, to reflect the ranking of the challenges by the respondents, each challenge was assigned a weight: if a particular challenge was ranked one, it was given a weight of five, a number two rank was given a weight of four, and a ranking of number three was given a weight of three, and so forth through the top five. (Challenges that were not ranked by respondents among the top five received zero weight.) Second, each weighted score was then assigned an additional weight based on the share of respondent’s country GDP as a proportion of all countries represented in the survey sample relative to the share of that country’s respondents in the total of 1,020 responses. Similar weights were assigned to regions, industry sectors, and revenue groups. For greater insight into how CEOs plan to meet their challenges, respondents were also asked rank order five critical “strategies” (or strategic priorities) for meeting each of their top five challenges, which were weighted in the same way as the challenges. We acknowledge that a survey of 1,020 respondents creates limitations regarding the statistical significance of the rankings. Therefore, the results presented are mostly for groupings of more than 50 respondents. In particular, for the smaller samples, the rankings provide a qualitative and directional indication of the importance of challenges. Two additional questions were added to the 2014 survey; one asking respondents to identify their top three “hotbutton” issues, those events or issues that will require the attention of respondents in the coming year. A second question asked respondents to select three attributes or behaviors that they felt future leaders must exhibit to be successful in an evolving business environment. Changes were also made in several of the strategy lists to better reflect the reality of the business environment.

38

Innovation Creating value through new products, new processes, business models, and organizational structures to meet and anticipate customer demands and remain competitive in a global marketplace Global political/economic risk Dealing with social, political, economic, and physical and cyber-security factors in the global business environment Global/international expansion Seeking growth in multiple markets outside your home country Operational excellence The measure of effectiveness, efficiency, and alignment of an organization’s processes, strategies, tactics, culture, and methodologies in such functions as finance, talent, governance, and operations that must be optimized to achieve business objectives and goals Trust in business The faith and expectation that corporations and business leaders will do the right thing; will operate in an ethical manner; and will meet the social, moral, and environmental expectations of stakeholders by doing business according to societal norms, values, rules, and laws Customer relationships How your company interacts with customers; winning and retaining customers Sustainability Corporate commitment to accountability for the triple bottom line of financial, social, and environmental obligations and opportunities; these include elements of corporate citizenship, environmental sustainability, and green business Government regulation The impact on the business environment of government rules, regulations, and reporting requirements Human capital The full spectrum of the employee/ employer experience, which includes under- standing global labor markets and workforce readiness; determining the skills and competencies companies need to compete and win; creating a compelling employment brand; managing compensation, benefits, and wellness programs; attracting, developing, rewarding, engaging, and retaining diverse talent; managing performance; growing leaders at all levels; managing succession; and articulating the impact of these efforts in business terms

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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ABOUT THE 2014 SURVEY Region

Valid Percentage

Frequency

Industry

Frequency

Valid Percentage

Asia

479

47.0%

Manufacturing

292

30.4%

Europe

105

10.3

Finance

106

11.0

United States

233

22.8

Service

564

58.6

Latin America

114

11.2

TOTAL

962

100.0%

Rest of the world TOTAL

89

8.7

1020

Revenues

100.0%

Valid Percentage

Frequency

Less than $100 million

583

59.4%

$100 million to under $1 billion

205

20.9

$1 billion to under $5 billion

102

10.4

$5 billion and above TOTAL

92

9.4

982

100.0%

Asia Revenues by Region

Europe Count %

United States Count %

Latin America Count %

Rest of the world Count %

Count

%

296

64.6%

54

52.4%

150

66.7%

51

45.5%

32

38.1%

99

21.6

12

11.7

32

14.2

36

32.1

26

31.0

Less than $100 million $100 million to under $1 billion $1 billion to under $5 billion

33

7.2

19

18.4

18

8.0

13

11.6

19

22.6

$5 billion and above

30

6.6

18

17.5

25

11.1

12

10.7

7

8.3

458

100.0%

103

100.0%

225

100.0%

112

100.0%

84

100.0%

TOTAL

The 2014 CEO Challenge Team

Regional Partners

Authors Charles Mitchell, Rebecca L. Ray, and Bart van Ark

Europe and Middle East

Analysts Bart van Ark, Rebecca L. Ray, Charles Mitchell, Rainer Schultheis, David Hoffman, and Matteo Tonello

Greece Hellenic Management Association

Project Manager Lindsay Collins Data Analysis Judit Torok, Lynn Franco Managing Editor Timothy Dennison Editors Megan M. Hard, Sara Churchville, Susan Stewart Design Peter Drubin Production Pam Seenaraine

United Kingdom Chartered Management Institute

Asia-Pacific Australia Australian Institute of Management China Fortune China Hong Kong Hong Kong Management Association Indonesia Indonesian Institute for Corporate Directorship Malaysia Malaysian Institute of Management

Communications Ralph Piscitelli, Peter Tulupman, and Simon Graham

Malaysia Asian Institute of Finance

Business Information Service Diane Shimek

Singapore Singapore Business Federation

Other Contributors Mary Jacobson, Nick Sutcliffe, Derek Kon, Salome Woo, Julian D’Souza, Vittoria Barbaso, Anke Schrader, Claire Xia, and Amanda Popiela

Philippines Makati Business Club Thailand Thailand Management Association

Latin America Brazil & Argentina Mercer

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RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

39


ABOUT THE AUTHORS Charles Mitchell, the executive director, knowledge content & quality at The Conference Board, is responsible for the development of member-generated content and ensuring the objectivity, independence, accuracy, and business relevance of the organization’s research. He also serves as publisher of The Conference Board Review®. Since joining The Conference Board in 1997 as the head of publishing, he has authored dozens of reports on business and economic issues. Prior to joining The Conference Board, Mitchell spent 14 years as a reporter and writer for United Press International, based in Johannesburg, Nairobi, Moscow, and Washington. He was foreign editor of the Detroit Free Press from 1990 to 1996 and European editor for World Business magazine. A graduate of the University of Pennsylvania, Mitchell is also the author of several books dealing with international business cultures, customs, and etiquette published by World Trade Press. He currently is based in Hong Kong. Rebecca L. Ray is executive vice president, knowledge organization for The Conference Board. In this role, she has oversight of the research planning and dissemination process for all three practices areas (corporate leadership, economics and business development, and human capital) and is responsible for the research agenda which, in turn, drives the business planning process for The Conference Board. She is responsible for overall quality of research and the continuing integration of its research and engagement efforts. Ray also continues to serve as the leader of the global human capital practice. Human capital research at The Conference Board focuses on human capital analytics, labor markets, workforce readiness, strategic workforce planning, talent management, diversity and inclusion, human resources, leadership development and employee engagement. She hosts the monthly Human Capital Watch™ webcast and oversees the Human Capital Exchange™, a website that offers research and insights from The Conference Board, its knowledge partners, and human capital practitioners. Ray also serves as director of The Engagement Institute™, a research community of practice she created with Deloitte Consulting and Sirota. She is the co-author of numerous publications at The Conference Board with a focus on leadership development and engagement, as well as co-author of Measuring Leadership Development (McGraw-Hill) in 2012 and Measuring Employee Engagement (ASTD), forthcoming in 2014. Her research, commentary, initiatives and the accomplishments of her various teams have been featured in the Financial Times, The Wall Street Journal, and South China Morning Post as well as in Harvard Business Review, Chief Learning Officer, and other publications. Ray was previously a senior executive responsible, at various times, for

40

talent acquisition, organizational learning, training, management and leadership development, employee engagement, performance management, executive assessment, coaching, organizational development, and succession planning at several marquis companies. She was named “Chief Learning Officer of the Year” by Chief Learning Officer magazine, and one of the “Top 100 People in Leadership Development” by Warren Bennis’s Leadership Excellence magazine. She serves on the advisory boards for New York University’s program in higher education/ business education at The Steinhardt School of Education and the University of Pennsylvania’s executive program in work-based learning leadership, and was recently elected to serve on the business practices council of the AACSB (Association to Advance Collegiate Schools of Business). She received her Ph.D. from New York University. Bart van Ark is executive vice president and chief economist of The Conference Board. He leads a team of almost two dozen economists who produce a range of widely watched economic indicators and growth forecasts, as well as in-depth global economic research. A Dutch national, he is the first non-US chief economist in the 95-year history of The Conference Board. Van Ark is an expert in international comparative studies of economic performance, productivity, and innovation and has been extensively published in national and international journals, including the Journal of Economic Perspectives, Economic Policy, Review of Income and Wealth, and The Brookings Papers on Economic Activity. He is a member of the editorial boards of several academic journals and serves on various advisory committees in the areas of productivity and national accounts. Van Ark obtained his master’s and PhD degrees in economics from the University of Groningen in The Netherlands. Derrick Kon is director, associate services, of The Conference Board. Prior to joining The Conference Board Kon worked in various management positions with multinationals and large organizations including Mercer Human Capital Consulting, where he served as regional consultant and global mobility lead for ASEAN countries. Kon is passionate about strategy, business growth, and leadership development, and the challenges these present to CEOs and organizations. He has published articles in international journals including Tourism Economics and Measuring Business Excellence. He also serves as the president of the Strategic Management Interest Group with the Singapore Institute of Management. Kon obtained his MBA from RMIT University and doctorate in business administration (DBA) from Victoria University, Australia.

RESEARCH REPORT The Conference Board CEO Challenge® 2014: ASEAN Edition

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Related Resources from The Conference Board Reports and Publications The Conference Board Review is the quarterly magazine of The Conference Board. Founded in 1976, it is a magazine of ideas and opinion for the world’s business leaders that raises tough questions about leading-edge issues at the intersection of business and society. www.tcbreview.com

THE CONFERENCE BOARD REVIEW

IDEAS AND OPINIONS FOR THE WORLD'S BUSINESS LEADERS

After the Storm

Boards and CEOs will face a changed landscape. WHO SAYS YOU’RE A GOOD GLOBAL CITIZEN? WHEN THEY HEAR YOU BUT DON’T LISTEN HOW MANY SENIOR EXECUTIVE VPS ARE TOO MANY?

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straighttalk

®

FROM THE CONFERENCE BOARD CHIEF ECONOMIST

Is slow growth too slow? SPECIAL ISSUE GLOBAL ECONOMIC OUTLOOK 2012

2011

V22 N02

StraightTalk® The Conference Board Executive Vice President, Chief Economist & Chief Strategy Officer Bart van Ark provides economic research, objective analysis, and forecasts to help new economy business executives in their strategic decision-making assess economic conditions affecting their markets worldwide. www.conferenceboard.org/straighttalk

Connect, Converse, Create: How Companies Can Generate Value through Internal Social Collaboration Research Working Group Report 1543, March 2014 Charting International Labor Comparisons Research Report 1542, March 2014 The Future ASEAN Leader: Leading Growth and Change in a Borderless World Research Report 1536, March 2014 The Conference Board CEO Challenge 2014 People and Performance: Reconnecting with Customers and Reshaping the Culture of Work Research Report 1537, February 2014 Sustainability Matters 2014: How Sustainability Can Enhance Corporate Reputation Research Report 1538, January 2014 Developing Leaders: Voices from India Research Report 1535, December 2013 The Link between Human Capital and Sustainability Executive Action 0423, December 2013

Strategic Leadership Development: Global Trends and Approaches Research Report 1517, June 2013 Job Satisfaction: 2013 Edition Research Report 1524, June 2013 Performance Management 3.0 Research Report 1525, June 2013 U.S. Salary Increase Budgets for 2014 Research Report 1526, June 2013

Webcasts The Conference Board Economics Watch® Live forecasts and commentary addressing changing business and economic conditions, worldwide: United States/Global and Europe (monthly); Emerging Markets (quarterly); and Mid-Markets (biannual). Human Capital Watch™ Addressing challenges and providing information about current issues across the entire spectrum of human capital. Governance Watch Helping senior legal and compliance professionals keep abreast of developments in corporate governance.

Peer Networks The Conference Board Councils bring together professional peers in confidential, dynamic, cross-industry communities to learn from each other’s experiences, draw on collective insight, and collaboratively explore solutions to pressing business challenges. Our Governance Center and China Center gather distinguished executives in facilitated, private, and public sessions to discuss pressing and longer-term issues.

Avoiding the Digital Desert Executive Action 0421, November 2013

Leadership Experiences

Strategic Talent Management: Where We Need to Go Research Report 1533, September 2013

The Conference Board Leadership Experiences leverage the power of experiential learning to demonstrate how senior executives can better instruct, inspire, and equip their teams to manage successfully through uncertainty and change. Programs take place on the battlefields of Gettysburg, Normandy, and Waterloo, and at the Johnson Space Center and Space Center Houston.

Addressing National Talent Shortages: What Countries Are Doing, What Companies Can Learn Research Report 1531, September 2013 DNA of Leaders: Leadership Development Secrets Research Report 1530, August 2013 Fast Track: Accelerating the Leadership Development of High Potentials in Asia Research Report 1522, June 2013

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the conference board

CEO Challenge 2014 速

Latin America Edition PEOPLE AND PERFORMANCE RECONNECTING WITH CUSTOMERS AND RESHAPING THE CULTURE OF WORK


The Conference Board creates and disseminates knowledge about management and the marketplace to help businesses strengthen their performance and better serve society. Working as a global, independent membership organization in the public interest, we conduct research, convene conferences, make forecasts, assess trends, publish information and analysis, and bring executives together to learn from one another. The Conference Board is a not-for-profit organization and holds 501(c)(3) tax‑exempt status in the U.S.A. www.conferenceboard.org


the conference board

CEO Challenge 2014 ®

Latin America Edition PEOPLE AND PERFORMANCE RECONNECTING WITH CUSTOMERS AND RESHAPING THE CULTURE OF WORK RESEARCH REPORT R-1540-14-RR by Charles Mitchell, Rebecca L. Ray, and Bart van Ark

Contents 4

Introduction: Meeting the Challenges Ahead

7

Executive Summary: Engagement, Accountability, Customer-Centricity

10 10 12

The Challenges

18 18

Meeting the Top Challenges in Latin America: Operational Excellence

21 21

Meeting the Top Challenges in Latin America: Human Capital

25 25

Meeting the Top Challenges in Latin America: Customer Relationships

27 27

Meeting the Top Challenges in Latin America: Innovation

29 29

Meeting the Top Challenges in Latin America: Government Regulation

31 31 32 33 34 35

Appendix Tables

36

About This Report

37

About the 2014 Survey

38

About the Authors

Gaining Efficiencies and Sustainable Growth by Focusing on Excellence in Execution Hot-Button Issues Vary Much More between Regions than Overall Challenges Reshaping Organizational Culture and the Work Environment to Improve Performance While Keeping a Hard Focus on the Bottom Line The Critical Link to Enterprise Performance Rise of the Value-Conscious Customer It’s Not about Money; It’s about Culture Getting Their House in Order Top five strategies to meet the next five challenges in Latin America Top five strategies to meet the top five challenges in Brazil Top five strategies to meet the top five challenges in Mexico Top five strategies to meet the top five challenges in Peru Top five strategies to meet the top five challenges in Colombia

For more information on The Conference Board CEO Challenge ®, visit www.ceochallenge.org


INTRODUCTION: MEETING THE CHALLENGES AHEAD For 14 years, THE CONFERENCE BOARD CEO CHALLENGE® survey has reached out to leaders worldwide to identify the main challenges they face while leading top companies in all markets. For the first time this year, the research included leaders from the Latin America region, providing a unique vision that top executives share in these emerging markets. The Conference Board conducted the initiative for Latin America in partnership with Mercer, a global leader in talent, health, retirement, and investments consulting, and Marsh, a global leading firm in insurance and risk management. As the global economy struggles to find a new sustainable growth path, CEOs in Latin America, as well as their counterparts in the rest of the world, are shrugging off considerable headwinds—less-than-encouraging government policies in many economies, uncertainties about the resilience of customers, consumers, and financial institutions, and the creative destruction brought on by new and sometimes risky technology. CEOs in the region say they are managing this mushrooming complexity with a focus on people, performance, reconnecting with customers, and reshaping the culture of work. The 2014 edition of The Conference Board CEO Challenge survey finds business leaders across the globe are not only zeroed in on what gets done but, more important, how things get done; they are willing to take a hard look at their own organizational culture to ensure engagement, accountability, customer-centricity, agility, and, ultimately, out­ standing performance. CEOs in Latin America are seeking strong business leadership that is able to drive change and is not afraid to boldly innovate (and even fail) in a performance-focused environment. They also see a renewed commitment to customers as a key to driving enterprise growth, even in what promises to be a slow global and Human Capital is the top challenge globally, but CEOs in Latin America are focused on Operational Excellence Global N=1,020

Latin America CHALLENGES 2014

N=114

1

Human capital

2

2

Customer relationships

3

T3

Innovation

4

T3

Operational excellence

1

5

Corporate brand and reputation

8

6

Global political/economic risk

6

7

Government regulation

5

8

Sustainability

10

9

Global/international expansion

7

Trust in business

9

10

N=Number of overall responses. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge.

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regional growth environment for some time to come. And, to accomplish this, they recognize the importance of developing an engaged workforce and a diverse and accountable leadership team—all while keeping an eye on what many of them see as an increasing burden of government regulation and a fight against less-than-ethical business practices that are not uncommon in the region. Since 1999, The Conference Board CEO Challenge survey has asked CEOs, presidents, and chairmen across the globe to identify their most critical challenges. In this year’s survey, there is global convergence around Human Capital, Customer Relationships, Innovation, and Operational Excellence—four highly related and interdependent challenges. These four, selected by the 1,020 respondents, all appear in the top-five list of challenges (in varying order) in every global region, including Latin America. This suggests some commonality in the big-picture issues confronting the global business environment. However, the strategies CEOs are employing to meet these challenges highlight the disparity of the issues in their micro business climates.

“Emerging leaders need more and better communication skills. We are looking for demanding leaders that promote change and innovation; leaders that attack complacency and leaders that develop talent with the skills they lack. For us, it is important to identify leaders at different levels of the organization, give them visibility, recognition, and help them set their goals. Leading through example is an unchanged cardinal principle of leadership in our organization. You have to walk the talk.” Carlos Mario Giraldo Moreno President, Grupo Éxito, Colombia

As in previous years, we do see a clear recognition among CEOs that Human Capital is the engine of the enterprise. Globally, as well as in Latin America, Human Capital is clearly a critical challenge for CEOs—it was ranked either first or second in every region. Human Capital is, in essence, the thread that runs through the other top-ranked challenges and forms the basis for strategic action—a fact recognized by regional CEOs by their frequent selection of people-driven strategies to meet their challenges. Also, in times of slow growth, smart companies are repositioning themselves to win market-share battles against relentless global competition—hence, the importance of Customer Relationships both globally and in Latin America. While the challenges listed in this survey represent big-picture issues confronting organizations, this year we added questions on “hot-button issues”—more immediate and tactical events and situations that CEOs believe will require much of their attention in the coming year. Globally, the top hot-button issue is big data analytics (it is fourth in Latin America)—an issue that is just starting to emerge and, if executed correctly, can provide competitive advantage in many ways. In general, we find the hot-button issues to be more regional, even country-specific. Labor relations tops the list in Latin America, while, in the United States, CEOs are focusing on health care benefits for employees.

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Other top-ranked hot-button issues regionally are concerns about economic depression within Europe among European-based CEOs, while CEOs in Asia worry over financial instability in China. In addition, we asked CEOs to tell us what they see as the essential traits and behaviors that future leaders must exhibit to succeed in an evolving business global environment. The global top-five attributes featured prominently across all regions: integrity, leading change, managing complexity, entrepreneurial mindset, and retaining and developing talent. Future leaders in Latin America are expected to possess those attributes as well, but also need to inspire innovation and be creative. While the focus tends to be on the top challenges selected by CEOs, it is interesting to look at those challenges mentioned less often. Sustainability (with the notable exception of China) and Trust in Business, in particular, have scored consistently low on the lists. For the second consecutive year (it was introduced as a challenge in the 2013 survey), Trust in Business finishes at the bottom of the challenge list globally and in every region except Latin America, where it is penultimate, marginally ahead of Sustainability.

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EXECUTIVE SUMMARY ENGAGEMENT, ACCOUNTABILITY, CUSTOMER-CENTRICITY More than five years after the global financial and economic crisis, the notion that, one day, the global economy will recover to its pre-crisis growth path may require a leap of faith on a macro scale. The macro picture is blurred by mostly policy-related headwinds, as many governments in mature and emerging markets are—in different ways—still struggling with the aftermath of the crisis. Austerity programs, tapering of quantitative easing, and managing currency volatility are only some of the factors that make it unclear what a sustainable macroeconomic growth path is. However, this wouldn’t be the first time that a long period of slow growth made way for a much more favorable growth path. To accomplish success, CEOs recognize the importance of developing an engaged workforce and a diverse and accountable leadership team. One message that comes through loud and clear from this year’s survey responses is the strong appetite among CEOs to reshape how their organizations work, with an emphasis on people, performance, and customers. They are focusing on how things get done and are willing to take a hard look at their own organizational culture to ensure engagement, accountability, customer-centricity, and, ultimately, great performance. Continuing the trend that surfaced in last year’s survey, CEO concerns about the global risk environment and the intrusion of government regulation in business continue to ease. Global Political/Economic Risk, which was the third-ranked challenge globally in 2012 and fifth in the 2013 survey, is sixth in 2014. Government Regulation, the top concern of CEOs in the United States and a top-five challenge globally as recently as 2012, now falls near the bottom of the challenge list globally, though it does rank among the top five in the United States and Latin America. Big data is a big deal globally, but labor and currency issues are concerns in Latin America Global N=970

Latin America HOT-BUTTON ISSUES 2014

N=111

1

Big data analytics

4

2

Economic depression in Europe

7

3

Diversity in our leadership ranks

3

4

Currency volatility

2

5

Financial instability in China

10

6

Labor relations

1

7

Cybersecurity

6

8

Volatility in energy markets

8

9

Health care benefits for employees

T12

10

Activist shareholders/stakeholders

9

11

Complying with government regulations on bribery and corruption

5

12

Physical redesign of corporate offices (open plan)

11

13

Human rights risk in our supply chain

T12

NR

Public demand for closing corporate tax loopholes

NR

NR=Issue was not ranked by any of the respondents. N=Number of overall responses. T=Tie.

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Among the findings from the 2014 survey: • Human Capital as an enterprise-wide driver In addition to being the top-ranked challenge globally and second in Latin America, Human Capital is closely linked to three out of four top challenges in the region—Operational Excellence, Customer Relationships, and Innovation—in that a talented, engaged, and properly motivated workforce is critical to success. All of these challenges are inwardly focused and, hence, more easily controlled. Government Regulation rounds out the top five challenges in Latin America. • People- and process-driven CEOs in Latin America are looking at a mix of process- and people-driven strategies to meet their greatest challenge—Operational Excellence. Their top strategy is improve our organizational agility/flexibility—itself a mix of people and process—followed by the people-centered strategies of raise employee engagement to drive productivity and improve performance and accountability of middle management. Tied to their concern over agility (and their focus on customers) is their fourth-ranked strategy, improve speed to market. Rounding out their top five is a desire to seek better alignment between strategy, objectives, and organizational capabilities. • Lukewarm outlook for the future Just 42 percent of CEOs in the region say they expect the overall economic situation in Latin America to be better in the coming year, while 17 percent see conditions deteriorating. This cautious outlook is a clear reflection of falling growth rates in 2013, especially in regional powerhouses Brazil and Mexico, though The Conference Board does predict a slight uptick in performance overall in Latin America in 2014, from 2.1 percent in 2013 to 2.8 percent in 2014—well behind the slowing, but still relatively impressive, growth rates seen in other emerging markets, such as China and India.1 CEOs in Latin America believe volatility in commodity prices, increased government regulation, and corruption are the three factors that will have the greatest impact on the region’s business environment in the coming year. They are also keeping an eye on inflation. • Labor and currency worries abound When it comes to hot-button issues regionally, CEOs in Latin America identify labor relations as their top issue, followed by currency volatility and diversity in leadership ranks. There is evidence that CEOs are being proactive in labor relations by looking to up-skill their workforces and improve engagement—not only in managerial ranks, but across the enterprise. Provide employee training and development is the top-ranked strategy to meet the Human Capital challenge, while develop innovation skills for all employees is the number-two strategy to enable Innovation and find, engage, and incentivize key talent is fourth. Raise employee engagement to drive productivity is the second most-favored strategy to spur Operational Excellence. • Toward a performance culture Performance management is a critical top-five strategy to address the Human Capital challenge in every region except Europe—it is third in Latin America. Throughout Latin America, staff and leader performance and accountability are near top of mind, as CEOs look to counter the slowing productivity trend and improve performance to move up the global value chain. Improve performance management processes and accountability, improve effectiveness of frontline supervisors and managers, and enhance effectiveness of the senior management team are three of the top seven strategies to meet the Human Capital challenge, while improve performance management and accountability of middle management is among the top three strategies for Operational Excellence.

1

8

“Global Economic Outlook 2014: Time to Realize the Opportunities for Growth,” StraightTalk 24 no.1, The Conference Board, November 2013 (www.conference-board.org/publications/publicationdetail.cfm?publicationid=2653).

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• A blind eye to social media Social media is one of the most immediate threats and greatest opportunities when it comes to solidifying customer relationships, building brand and reputation, and as a knowledge-sharing tool within an organization. While CEOs in Latin America appear to appreciate the importance of using the medium to enhance and protect a corporate reputation (use social media and new communication technologies ranks third in the Corporate Brand and Reputation challenge), they are less enthusiastic about its use in other areas. CEOs in the region give the use of social media low rankings as a strategy to improve Customer Relationships (tenth), to improve knowledge-sharing to meet the Innovation challenge (eleventh), and to build Trust in Business (tied for last). Encourage use of social media for talent recruitment and acquisition is also the lowest-ranked strategy (twenty-second) to meet the Human Capital challenge. • Sustainability and reputation CEOs in Latin America rank Sustainability last—the lowest ranking of any region. Also, there is less focus on Corporate Brand and Reputation (a challenge that is easily linked to sustainability) in Latin America than elsewhere. CEOs in the region rank it eighth on the challenge list. It is fifth globally, and cracks the top five in both Asia and the United States. • Human rights risk Despite the high profile given to such 2013 supply chain disasters as the fatal Bangladesh factory collapse in April, as well as activist shareholders and nongovernmental organizations seeking supply chain compliance assurance, CEOs in Latin America and around the world rank better monitor supply chain for human rights risk last as part of their plan to meet the Corporate Brand and Reputation challenge. CEOs in Latin America, as well as the other global regions, also rank this far down on their hot-button issue list. Human rights risk in our supply chain is tied for twelfth (penultimate) on the hot-button list in the region.

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THE CHALLENGES Gaining Efficiencies and Sustainable Growth by Focusing on Excellence in Execution The day-to-day battle of doing business Since the 2000s, the major Latin American economies have seen an impressive strength­ ening of their economic and business environment. External factors, such as the rise in demand for commodities from China, have certainly helped. However, in contrast to previous growth booms, most Latin American economies (with the notable exceptions of Argentina and Venezuela) have seen important structural reforms in key markets, such as manufacturing, retail, transportation, and infrastructure, that have created a more conducive environment for competition, productivity, and growth. In addition, social programs in education and health care have helped to significantly reduce poverty in several Latin American countries. While inequality in terms of income and, especially, access to education and capital remains a key concern, the tide has lifted all boats more than during previous growth booms. As a result, more jobs and higher incomes have made domestic demand a more important driver of growth. However, for many Latin American economies, the easiest basic reforms have already been achieved. Now, the tougher reforms need to happen—for example, in labor markets (rebalancing the protection of those with a job with the lack of access for those without), simplifying tax codes, and reforms in strategic sectors, such as energy and telecommunications. Indeed, labor relations is ranked as the top hot-button issue for CEOs in Latin America, something not seen in any other region. Clearly visible from the view of CEOs in Latin America—which is being included as a separate region for the first time this year—is the need for greater efficiency and productivity of firms. They made Operational Excellence their top challenge selection, followed by Human Capital. They, like their peers in other regions, are emphasizing the importance of the customer (Customer Relationships is third) and Innovation (fourth). Again, these challenges are primarily approached through the lens of strengthening Human Capital. They, along with their counterparts in the United States, rank Government Regulation fifth. However, CEOs in Latin America cannot focus only internally; the push for better business results means dealing effectively with a uniquely challenging external regional environment. In addition to including Government Regulation among its top challenges, it is the only region to have complying with government regulations on bribery and corruption among its top hot-button issues. Also, the high ranking given to currency volatility, which is the second hot-button issue for CEOs in Latin America, points at the continued macroeconomic disruptions that Latin American economies still experience from the global economy. In a slower-growth environment, CEOs in Latin America sense the urgency of moving up the global value chain to spur faster growth, even if the demographic, environmental, regulatory, and political forces prevalent throughout the region will make this difficult. Many of the regional economies recognize that, to be competitive, they must up-skill their workforces and become more innovative, as they evolve from being a source of cheap low-end production and extraction industries to one of more value-added, highertech manufacturing and services industries.

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The Human Capital challenge cuts across all regions; high performance, strong customers relationships, and innovation are seen as essential for growth; Latin American CEOs give Government Regulation a top-five ranking Global N=1,020

Latin America

United States

Asia

Europe

N=114

N=233

N=479

N=105

CHALLENGES 2014

1

Human capital

2

2

1

1

2

Customer relationships

3

1

4

3

T3

Innovation

4

4

2

2

T3

Operational excellence

1

3

3

4

5

Corporate brand and reputation

8

T5

5

7

6

Global political/economic risk

6

7

T6

6

7

Government regulation

5

T5

8

9

8

Sustainability

10

8

T6

8

9

Global/international expansion

7

9

T9

5

10

Trust in business

9

10

T9

10

N=Number of overall responses. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. T=Tie.

Operational Excellence is a shared regional concern Global N=1,020

CHALLENGES 2014

Latin America

Brazil

Colombia

Peru

Mexico

N=114

N=20

N=20

N=32

N=16

1

Human capital

2

2

2

2

4

2

Customer relationships

3

3

1

4

3

T3

Innovation

4

5

4

3

2

T3

Operational excellence

1

1

3

1

1

5

Corporate brand and reputation

8

7

10

5

9

6

Global political/economic risk

6

6

9

8

6

7

Government regulation

5

4

5

6

5

8

Sustainability

10

10

6

7

10

9

Global/international expansion

7

8

7

9

7

10

Trust in business

9

9

8

10

8

N=Number of overall responses. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. T=Tie.

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The message is clear from regional CEOs: without the right talent, it becomes difficult for organizations to operate effectively and grow. • Getting personally involved CEOs are looking to lead by example in Latin America by promising to personally engage with customers and lawmakers as part of their strategies to meet both the Customer Relationships and Government Regulation challenges. They rank engage personally with key customers/clients as their number-four Customer Relationships strategy and personally spend more time with regulators as their second-ranked Government Regulation strategy—the highest ranking globally.

• Sustainability and reputation CEOs in Latin America rank Sustainability last—the lowest ranking of any region. There is also less focus on Corporate Brand and Reputation (a challenge that is easily linked to sustainability) in Latin America than elsewhere. CEOs in the region rank it eighth on the challenge list. It is fifth globally, and cracks the top five in both Asia and the United States.

Hot-Button Issues Vary Much More between Regions than Overall Challenges

Mixed feelings about Latin American business conditions going forward In the next year, the overall economic situation in Latin America will be … Better

Same

Worse

42.3%

40.5

17.1

N=111 Percentages do not add to 100 due to rounding.

One addition to the 2014 survey is a question asking CEOs to identify their “hot-button issues”—those things that truly “keep them awake at night,” at least in the short term. The hot-button issues underscore the ongoing volatility and uncertainty that dominate their operating environment and tactical decisions. They are also clear reflections of the unique day-to-day risks business leaders face in each region. In addition to the hotbutton issues, we also asked CEOs in Latin America to identify the three factors that will have the greatest impact on the region’s business environment in the coming year. Big data analytics, the top hot-button issue globally (fourth in Latin America) is primarily an opportunity, although it can become a risk. It can be an important tool (if used properly) to fundamentally alter a firm’s competitive advantage by driving corporate efficiency, developing hedging strategies, and retaining and gaining new customers by better predicting behaviors, needs, and trends. In the end, the information derived from big data forces action. There is also a clear role for big-data analytics in the Human Capital space, particularly in strategic workforce planning. However, CEOs across the globe, as well as in the region, do not appear to be fully aware of nor embracing its potential. Require the use of analytics to articulate the business impact of key human capital initiatives and programs is one of the lowest-ranked strategies to meet the Human Capital challenge globally (nineteenth) and in Latin America (eighteenth). Financial issues are top of mind for CEOs across the globe, with ongoing concerns about economic depression in Europe coming in second, currency volatility fourth, and financial instability in China fifth. On a regional basis, CEOs in Latin America, where the concept of social justice and wage equality is always near the surface, see labor relations and currency volatility as their top two hot-button issues, while in Europe economic depression in Europe and volatility in energy markets fill those respective spots. In Asia, financial instability in China and currency volatility (played out by depreciation of the Chinese yuan in early 2014) take the top two spots, while, in the United States, health care benefits for employees is number one by a considerable margin over big-data analytics.

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Hot-button issues show specific regional and country concerns Global N=970

HOT-BUTTON ISSUES 2014

United States

Asia

Europe

Latin America

Brazil

Colombia

Peru

Mexico

N=217

N=457

N=97

N=111

N=20

N=20

N=32

N=16

1

Big data analytics

2

3

5

4

T4

2

5

1

2

Economic depression in Europe

5

7

1

7

6

12

6

5

3

Diversity in our leadership ranks

4

4

3

3

3

3

3

3

4

Currency volatility

6

2

6

2

2

5

2

2

5

Financial instability in China

10

1

8

10

10

11

7

T10

6

Labor relations

7

5

7

1

1

1

1

4

7

Cybersecurity

3

11

4

6

T8

T9

13

T7

8

Volatility in energy markets

T8

8

2

8

7

T7

9

T7

9

Health care benefits for employees

1

12

NR

T12

NR

T7

8

NR

10

Activist shareholders/stakeholders

T8

6

9

9

T4

T9

10

T10

11

Complying with government regulations on bribery and corruption

12

9

10

5

T8

6

4

T7

12

Physical redesign of corporate offices (open plan)

11

10

12

11

NR

4

11

T10

13

Human rights risk in our supply chain

13

13

11

T12

11

13

12

T10

NR

Public demand for closing corporate tax loopholes

NR

NR

NR

NR

NR

NR

14

6

N=Number of overall responses. NR=Strategy was not ranked by any of the respondents. T=Tie.

• Anti-bribery focus Despite recent prosecutions and high-profile media attention given to such anticorruption legislation as the US Foreign Corrupt Practices Act and the UK Bribery Act, CEOs in Latin America are the only group to rank complying with government regulations on bribery and corruption as among their top five hot-button issues, which is consistent with the relatively high ranking given to Government Regulation as a big-picture challenge. They also identify corruption as one of the top three factors likely to have significant impact on the regional business environment in the coming year.

• Cybersecurity surfaces as an important hot-button issue in Latin America (sixth), which underscores the concern over intellectual property protection as well as a paradigm shift that makes commerce, not just military advantage, a highly valued target for governments. However, members of The Conference Board Corporate Security Executives Council say the view from the C-suite may still be too narrow to effectively attack the problem. Too often, companies view the threat as emanating primarily from technology while ignoring human behavioral aspects. While much of the worry is about faceless hackers breaching the system from outside, the reality is that internal theft and espionage pose a more challenging and more frequent risk. An IT department can roll out the tools to limit breaches from the outside, but the cyber threat really emanates from people—and needs to be viewed as an enterprise risk issue, not just an IT issue.2 2

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Reframing the Issue: New Ways to Think About Cyber Risk and Security, The Conference Board, Council Perspective 51, December 2013 (www.conference-board.org/publications/publicationdetail.cfm?publicationid=2666).

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Leadership diversity a major focus The third-ranked hot-button issue globally is the Human Capital-related issue of diversity in our leadership ranks. CEOs across the globe are clearly concerned about diversity—it is ranked third in Latin America and no lower than fourth across all regions. In addition to governmental mandates regarding board diversity in many countries around the world, CEOs have come to the realization that diversity among a company’s leadership team is simply good business. Diversity of views and experiences allows for greater awareness of customer and consumer needs and tastes, especially as a company enters new markets, looks to attract new market segments, or creates new products and services.

Volatile commodity prices and issues with governments seen as having the greatest impact in the coming year Factors that will have the greatest impact on Latin America’s business environment in the coming year

Rank N=75

Volatility in commodity prices

1

More government regulation

2

Corruption

3

Government bureaucracy

4

Slow growth in global manufacturing

T5

Inflation

T5

Decreasing foreign direct investment

7

Increasing protectionism related to international trade

8

Exchange rate volatility

T9

Slowing global demand for services

T9

Shortage of skilled labor

11

Shortage of management talent

12

High cost of capital

T13

Rising land costs

T13

Worsening employer/union relationships

T13

Wage inflation

16

Increasing consumer debt

17

Volatility in energy price/supply

18

Declining work ethic

19

Lack of worker mobility

20

Extreme weather events

21

N=Number of overall responses. T=Tie.

14

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Diversity is especially important, given the rise in purchasing power among women around the world and with the emerging middle-class consumers in markets like Brazil, Mexico, China, India and Thailand, where buying decisions for certain goods will, more often than not, be made by women. Its presence (or absence) affects the corporate brand and makes a difference to both potential consumers and “free market” top talent when considering similar products or employers. In Latin America, the lack of women in key decision-making roles and, specifically, on corporate boards, is a primary concern throughout the region. A 2013 survey found that the majority of respondents (78 percent) believe regional cultures hinder women’s career advancement.3 Women are often expected to carry the “double burden” of balancing work and family responsibilities, which leaves them less consistently available outside of working hours and less able to travel for work—both important factors for advancement. Furthermore, most respondents believe women’s role as family caretakers often causes them to leave their jobs. That diversity in our leadership ranks is a top hot-button issue should be encouraging for the advancement of women in business in the region.

3

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McKinsey & Company, “Why Top Management Eludes Women in Latin America: McKinsey Global Survey Results,” August 2013 (www.mckinsey.com/insights/organization/why_top_management_eludes_women_in_latin_america_mckinsey_ global_survey_results).

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Brazil and Mexico: Can They Live Up to Their Star Billings? After a remarkably long period of economic growth and optimism, Brazil’s economy and society are once again suffering the dual disappointments of unfulfilled promises and missed opportunities. The movement that began with economic reforms in the 1990s and significant investment in social cohesion that lifted some 35 million Brazilians out of poverty in the 2000s has stalled yet again. In the past three years, GDP has slowed significantly from its 4.5 percent growth per year on average from 2005 to 2010; in 2013, GDP was only about 2 percent. Mexico saw strong economic performance during 2011 and 2012, along with the installation of the new administration led by Enrique Peña Nieto, which has increased hopes that, after two decades of slow growth, the country is finally making the transition to a higher-growth path. Exhibit 1:

However, a disappointing 2013 performance—a growth rate of less than 2 percent—has led to renewed concerns about whether Mexico is again living up to its reputation as a “perennial underachiever.”a The performance of the external sector has been especially disappointing, as the contributions from remittances, foreign direct investment, and tourism to Mexico’s GDP have all been under pressure in recent years. Both Brazil and Mexico face similar problems with inadequate infrastructure, a poorly educated labor force, lack of innovation, and doubts about the ability of their governments to make the necessary structural reforms to set each country on a sustainable growth path. At the heart of the concern is the ability (and political will) of the respective governments to make the required infrastructure investments

while ignoring vested interests. Both countries are vulnerable to political and social disruptions, and the issues of social justice and wage inequality cannot be ignored. Brazil’s road back to sustained growth will be bumpy. The growth outlook for the Brazilian economy is not as strong as in the previous decade. The growth projections for the remainder of the decade are between 2.5 and 3 percent, and the trend will not accelerate beyond 3 percent unless new sources of growth are activated in the next few years. The country also runs a serious risk of falling into the classic middle-income trap, as it may not be able to modernize its economic structure fast enough to be truly competitive in a global environment. (Text continues on page 17.)

Brazil growth scenarios ADJUSTING THE BALANCE BETWEEN PUBLIC AND PRIVATE INVESTMENT

Newly emerging middle classes demand higher investment in public services and infrastructure, but lack of adequate reform limits their effectiveness, increases costs, and holds down productivity.

Open House

Macroeconomic stability is threatened by increased deficits and inflationary pressures.

Increasing competition from other emerging countries and pressure from the newly emerging middle class forces Brazil on a path of reforms of labor laws and removal of critical protectionist measures to create faster productivity.

Increasingly, government spending threatens to crowd out private-sector investment, seeking higher returns for investment abroad.

Government reallocates significant funds to stimulate public education, transportation, and health care.

The informal sector of the economy remains relatively large and separate from formal sector.

Reduction in red tape and corruption encourage transparent public–private partnerships to accelerate growth agenda.

With slowing growth and conflicting political pressures, existing patterns of high taxation and inadequate government spending continue.

A reform agenda gradually lifts labor market restrictions, tackles vested interests, and reduces protectionist measures.

Rigid labor markets and protectionist measures remain in place.

Rising demands of the new middle class are not sufficiently addressed by investments in public services and infrastructure.

Macroeconomic constraints and a weak global economy limit government and private spending and do not lead to sufficient improvements in safety, health care, education, and infrastructure.

Low productivity and volatile growth performance go together with higher inflationary pressures. Imports increase, despite high tariffs, as domestic industry loses its competitive edge.

Parts of informal economy gradually integrate into the formal economy, but cannot develop because of underinvestment.

Economic growth is held back by a lack of educated workers and inadequate infrastructure.

Trapped

Unstable Foundation

REIGNITED ECONOMIC AND REGULATORY REFORM

STALLED ECONOMIC AND REGULATORY REFORMS

Limited Room

CONTINUED HIGH GOVERNMENT SPENDING Source: The Conference Board, 2014

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Brazil and Mexico: Can They Live Up to Their Star Billings? (continued) Exhibit 2:

Mexico growth scenarios INCREASED PUBLIC INVESTMENT IGNITING PRIVATE INVESTMENT

Mexico is unable to adequately reform its economic structure beyond marginal adjustment.

Through deficit spending, the government invests in infrastructure and education, but low returns do not generate a fly-wheel effect.

Maquiladoras and foreign firms keep having difficulty in developing local supply chains, and many industries remain relatively closed to foreign firms and increased competition.

Mexico competes reasonably successfully at the lower end in the global value chain, but is unable to take full advantage of its proximity to the United States and its membership in NAFTA.

Critical Partner in North America

Economic reform, as well as government investment, spurs private-sector investment and moves Mexico up the global value chain. Returns on private-sector activity increase.

Enhanced government revenue is invested in infrastructure and education, as well as in the creation of more efficient government services.

Mexico’s economic structure gradually transforms from an emphasis on low-cost production and energy to higher value-added growth integrated in the North American economy.

Mexico becomes a critical part of NAFTA and the global value chain. The country’s security situation sustainably improves.

Mexico undertakes significant reforms in multiple sectors and makes significant fiscal reform. However, public investment stays behind.

To alleviate social tensions, increased government revenue goes mostly to increasing wages and social programs rather than to productivity-enhancing investment in infrastructure and (higher) education.

Industries use the low-cost environment to compete on low value, but make no drive toward innovation and education.

Overall, the private sector tempers its investments and does not mobilize the informal sector. Social tensions remain, as a growing part of the population struggles to find employment.

Perennial Underachiever

Mexico is unable to adequately reform its economic structure beyond marginal adjustment.

Informal-sector activity remains large, with low productivity and no tax revenues.

Underinvestment in infrastructure and education continues.

Access to the global supply chains does not expand, and Mexico does not upgrade in the global value chain. Mexico increasingly faces competition from other low-cost countries and cannot forcefully compete against East Asian countries.

It loses market share in the United States to other emerging markets, despite its comparative advantage of being proximate to the United States and being part of NAFTA.

Stuck in the Middle

SIGNIFICANT ECONOMIC AND REGULATORY REFORM

MARGINAL ECONOMIC AND REGULATORY REFORM

Old Mexico Extended

CONTINUED LOW INVESTMENT BY PUBLIC AND PRIVATE SECTOR Source: The Conference Board, 2014

If Mexico takes full advantage of the North America Free Trade Agreement accords and pursues both reform and investments in tandem, it could break out of its pattern of underachievement. Only recently, the amount of private credit in the economy has started to grow beyond 25 percent of GDP, though still at less than half of India or Brazil. Enhanced competitiveness and productivity will lead to increasingly higher wages for workers, making Mexico increasingly attractive, not only as a central hub in the global value chain but also as a destination market for products

and services, and propel the growth of domestic consumption. Job creation remains key for both countries. Growth increasingly needs to be based on productivity improvements to encourage entrepreneurship and integrate informal-sector activity into their formal economies, and regulatory reform needs to focus on clearer property rights and allow new businesses to scale up and become eligible for long-term financing. A good-faith effort to tackle bureaucratic

“red tape,” corruption, and crime could significantly reduce the cost of doing business and lower barriers to growth and competitiveness in both countries. It would also help to limit the risk of social unrest and political instability. In the end, whether these two potential powerhouses achieve their long-term potential depends on the tough choices and political will of the governments in charge. The exhibits provide potential scenarios for growth (or not), depending on the choices these governments may take.

a “Señores, Start Your Engines,” The Economist, November 24, 2012 (www.economist.com/news/special-report/21566782-cheaper-china-and-credit-and-oilabout-start-flowing-mexico-becoming). Source: An extended analysis of Brazil and Mexico will be published spring/summer 2014 under The Conference Board “Global Debt and Growth Series” of reports. Currently available are analyses of Japan, Germany, Spain, and the United States (www.conferenceboard.org/publications).

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MEETING THE TOP CHALLENGES IN LATIN AMERICA OPERATIONAL EXCELLENCE

OPERATIONAL EXCELLENCE

4

1

3

3

4

Global

Latin America

United States

Asia

Europe

Reshaping Organizational Culture and the Work Environment to Improve Performance while Keeping a Hard Focus on the Bottom Line While CEOs may not be able to exert personal control over economic or political risks, customer purchasing decisions, government regulations, competitor behaviors, or gamechanging technology developments, they can control how their company operates. Operational Excellence is truly “the challenge they control” and, in a slow-growth economic environment, is the ultimate key to competitive advantage. Just as there is a culture of innovation, so, too, is there a culture of excellence—and often the two can clash. One struggle CEOs face is managing the tradeoff between driving innovation, holding the line on costs, and maintaining high-quality execution of day-to-day operations. Sometimes they all can get in the way of each other, and there is a natural tension between innovation-focused staff and operational-focused staff—the creatives versus the doers and “bean counters.” Innovation is disruptive, and those involved have a much different view of risk and costs than those responsible for operational execution. Much also depends on the specific business involved; commodity-type businesses, such as lowtech manufacturing, are driven by excellence in execution to maintain margins, while other businesses, such as electronics or technology, are innovation-driven. Even the maturity of a business or product line can dictate the managerial approach and the type of culture needed to succeed. A newly created business—for example, in the services sector, which is more knowledge-driven—may have a culture clearly developed with an innovation bias. But, as the product or service offering ages, it becomes more and more driven by operational excellence to be successful. The challenge within Latin America is maintaining both cultures in the same company with a diverse product line, while keeping costs in check.

• Re-shaping a performance culture The strategies selected by CEOs in Latin America to meet “the challenge they control” focus on reshaping the work environment and culture to improve performance and accountability. Improve our organizational agility/flexibility and raise employee engagement are the top two strategies to meet the Operational Excellence challenge, while redesign business processes, improve performance and accountability of middle management and improve performance and accountability of senior management are also among the top 10. To underscore their commitment to greater accountability compared to their peers globally, CEOs in the region give the highest ranking (ninth) to better align executive compensation and incentives with business performance as a strategy to meet this objective.

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CEOs stress organizational agility and employee engagement in Latin America Global N=754

OPERATIONAL EXCELLENCE STRATEGIESÂ 2014

Latin America

United States

Asia

Europe

N=92

N=183

N=335

N=75

1

Seek better alignment between strategy, objectives, and organizational capabilities

5

1

1

T2

2

Improve our organizational agility/flexibility

1

3

5

1

3

Raise employee engagement to drive productivity

2

2

2

4

4

Improve performance and accountability of senior management

8

5

T7

5

5

Improve performance and accountability of middle management

3

T6

T7

T2

6

Invest more in new technologies

T10

T6

4

8

7

Redesign business processes

6

T10

6

7

8

Achieve economies of scale through product/process standardization and harmonization

13

9

3

15

9

Continual improvement (Six Sigma, total quality, etc.)

7

4

12

9

10

Achieve economies of scale through organic business growth

T10

T10

10

10

11

Better align IT with business goals

12

T10

15

6

12

Focus on reduction of baseline costs

16

13

14

T11

13

Break down internal silos

21

8

18

T11

14

Improve cash management

15

15

9

24

15

Reduce management layers

14

20

16

14

16

Better align executive compensation and incentives with business performance

9

16

13

T21

17

Improve speed to market

4

14

23

19

18

Enhance the effectiveness of board governance

18

T17

11

25

19

Improve capital investment decision process

T19

T17

20

T21

20

Ensure supply chain integrity

17

21

19

20

T21

Deepen integration of global operations

T19

22

17

23

T21

Achieve economies of scale and/or synergies through mergers and acquisition

T23

19

22

13

23

Secure lower costs for materials and other input resources

25

T25

21

17

24

Consider sourcing opportunities globally

T23

24

25

16

25

Better manage outsourced operations and offshore operations

22

23

24

18

26

Optimize number of global suppliers

26

T25

26

27

27

Decrease carbon footprint/resource use

27

27

27

26

N=Number of overall responses. NR=Strategy was not ranked by any of the respondents. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge.

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• Growth orientation Like their peers around the globe, cost control and cash management issues take a back seat to performance improvement and accountability strategies to achieve Operational Excellence. Improve cash management and focus on reduction of baseline costs are the fourteenth and fifteenth ranked strategies by CEOs in Latin America. These two strategies have lost favor with CEOs globally in the past year. Controlling baseline costs was last year’s number-two global strategy. It fell to number 12 in 2014.

• Tech is no magic bullet CEOs in Latin America are relying less on technology than their global peers to help them improve operational efficiency. Generally, they rate invest more in new technologies and better align IT with business goals lower than CEOs in other regions.

“What drives operational excellence in our organization? People—they define the goals and the vision of the company. Technology is just a tool. People will make the difference for the business. Leadership drives operational excellence. People must be aligned, informed, and committed, and that is why we focus so much on our leaders to ensure everything is aligned. We are not talking about a technical alignment, but about attitude, action—everyone rowing in the same direction.” Ricardo Loureiro President (Brazil) and Managing Director for Latin America, Serasa Experian

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MEETING THE TOP CHALLENGES IN LATIN AMERICA HUMAN CAPITAL

HUMAN CAPITAL

1

2

2

1

1

Global

Latin America

United States

Asia

Europe

The Critical Link to Enterprise Performance As the top-ranked challenge globally and second in Latin America, Human Capital is closely linked to three of the four top challenges in the region—Operational Excellence, Customer Relationships, and Innovation—through the importance of a talented, engaged, and properly motivated workforce. It is, in essence, the thread that runs through the other top challenges and it forms the basis for strategic action. While response numbers are smaller, Human Capital is a top-five challenge for CEOs in developed economies like Canada, Hong Kong, Singapore, and the United Kingdom, as well as in the emerging markets of Brazil, Colombia, Mexico, Peru, India, Malaysia, and Thailand. • Internal focus on talent strategies Provide employee training and development topped the list of strategies in Latin America. This internal focus is clearly evident; only in this region are all of the top 10 strategies inwardly focused on both employees and leaders. Increase efforts to retain critical talent, improve performance management processes and accountability, improve leadership development, and improve effectiveness of frontline supervisors and managers round out the top five strategies. • Slowing the revolving door? Slowing regional economies may mean that the perpetual revolving door of talent may not be swinging as fast. CEOs in Latin America, who are focused on improving employee engagement and up-skilling their existing workforce, give a relatively low ranking for hire more talent on the open market, which is eleventh in the region. Once considered an important strategy globally, looking to hire from the outside has lost favor virtually everywhere in the world. It has dropped from the third most-favored strategy globally in 2012 to seventh in 2013 and tenth in 2014. • Missed opportunity Despite the reality that education institutions can be a key resource to solve talent shortages and skill mismatches, CEOs in Latin America rank invest in education systems to improve workforce readiness a lowly fifteenth out of 22 listed Human Capital strategies. With a pressing need across the region to coax the education system away from an addiction to academic results to the development of more business-ready skills and practical applications, ignoring the potential of public/private educational partnerships can be a missed opportunity. So, too, is the private sector’s reluctance to help educational institutions enhance English-language training—perhaps one the biggest obstacles to developing global leaders in both multinational companies and large regionally based firms. • Shunning contract workers Despite the growth of contract workers in many parts of the world and the apparent willingness of new generations of workers to embrace nontraditional work arrangements, CEOs in Latin America, like their peers across the globe, do not place a high value on the strategy to increase the use of contractual or contingent workers (tied at twentieth) as a viable measure to cope with talent shortages.

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• Expat, go home The use of expats is decidedly not a top strategy when it comes to the Global/International Expansion challenge. The human capital-related strategy, increase the use of expats to manage businesses locally, is one of the lower-ranked strategies to meet the expansion challenge (twelfth out of 13 strategies in Latin America), while develop local management talent for top roles, the second strategy globally, is relatively highly rated at third in Latin America. CEOs in Latin America focus on up-skilling their workforces and retaining critical talent; hiring on the open market not a favored strategy Global N=738

HUMAN CAPITAL STRATEGIES 2014

Latin America

United States

Asia

Europe

N=95

N=169

N=335

N=72

1

Provide employee training and development

1

2

2

T4

2

Raise employee engagement

6

1

5

2

3

Improve performance management processes and accountability

3

4

1

8

4

Increase efforts to retain critical talent

2

T5

6

3

5

Improve leadership development programs

4

T5

11

1

6

Focus on internally developed talent to fill key roles

7

10

3

7

7

Enhance effectiveness of the senior management team

8

3

4

6

8

Improve effectiveness of frontline supervisors and managers

5

7

T7

14

9

Improve corporate brand and employee value propositions to attract talent

13

12

T7

T4

10

Improve succession planning for current and future needs

9

8

10

T10

11

Hire more talent in the open market

11

9

12

T10

12

Redesign financial rewards and incentives

12

13

9

19

13

Promote and reward entrepreneurship and risk taking

10

11

13

13

14

Increase diversity and cross-cultural competencies

17

T15

14

9

15

Expand talent pools by recruiting nontraditional workers

19

18

17

12

16

Invest in education systems to improve workforce readiness

15

14

18

T17

17

Pay more attention to labor relations issues

16

21

15

16

18

Manage multigenerational workforce

14

20

T20

15

19

Require the use of analytics to articulate the business impact of key human capital initiatives and programs

18

17

16

T21

T20

Increase the use of contractual or contingent workers

21

T15

T20

T21

T20

Encourage use of social media for talent recruitment and acquisition

22

19

19

T17

22

Decrease the use of contractual or contingent workers

20

22

T20

20

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy.

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Leadership matters This year, CEOs were asked to identify the leadership attributes and behaviors they believed are critical to future success. There is a great deal of convergence about what it means to be an effective leader in any region, with three of the global top five found in each region: integrity, leading change, and managing complexity. Regional differences include CEOs in Europe and the United States, who believe in the greater value of articulating a vision, and Latin American CEOs who believe that to inspire innovation is a winning strategy. They also expect future leaders to possess creativity and an entrepreneurial mindset and to be active in talent development.

Future leadership attributes reflect the future business focus in each region; integrity, leading change, and managing complexity are foundational for any future leader Global N=1,018

LEADERSHIP ATTRIBUTES ANDÂ BEHAVIORS 2014

Latin America

United States

Asia

Europe

N=114

N=233

N=477

N=105

1

Integrity

1

2

T4

1

2

Leading change

2

1

3

3

3

Managing complexity

4

3

T4

2

4

Entrepreneurial mindset

7

6

1

5

5

Retaining and developing talent

3

5

6

T7

6

Global thinking/mindset

10

T9

2

T7

7

Articulating a vision

9

4

14

4

8

Inspire innovation

5

7

8

6

9

Learning agility

11

8

7

12

10

Collaboration

12

T9

9

T10

11

Creativity

6

12

12

9

12

Self-awareness

15

T9

13

T15

T13

Focus on sustainability

14

T14

T10

T10

T13

Influence skills

8

13

T10

T15

T15

Cultural sensitivity

13

T14

16

13

T15

Building networks

16

T14

15

14

17

Address government regulation

17

17

17

NR

N=Number of overall responses. NR=Attribute was not ranked by any of the respondents. T=Tie.

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“For us, leadership development is a global investment. In times of ambiguity and information overload, it is necessary to have innovation embedded in day-to-day thinking. It is not an extra thing. We have an approach at the company called 3D Leader—the leader must be a manager, pragmatic, with a focus on results; an educator, who develops the team; and a transformer, who thinks differently and leads change.” Ricardo Loureiro President (Brazil) and Managing Director for Latin America, Serasa Experian

“We have been able to develop the teams and talent we need to cover the most challenging part, which is the operation. By developing the people ourselves, we have been successful in growing the business. Nearly every director in Alsea comes from within the organization. They have evolved and developed their knowledge of the business in-house, while building the right amount of expertise. I think is harder to find the right talent for managing positions in other functional roles for which expertise is not built within the company. Finding, attracting, and hiring is difficult.” Fabian Gosselin CEO, Alsea

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MEETING THE TOP CHALLENGES IN LATIN AMERICA CUSTOMER RELATIONSHIPS

CUSTOMER RELATIONSHIPS

2

3

1

4

3

Global

Latin America

United States

Asia

Europe

Rise of the Value-Conscious Customer It looks like 2014 is the year customers are finally getting their due. CEOs around the globe and in Latin America appear to have refocused on customers and their relationship with them. In many regions, especially in emerging markets, the key to future growth (and survival) centers on connecting with the emerging middle class and their changing needs as more sophisticated and quality- and value-conscious consumers. The aspira­ tional part of consumer demand is growing, especially in Latin America. Globally, CEOs rank Customer Relationships as their second most-critical challenge after Human Capital. It is third within Latin America—recognition that growth and market share will be harder to win as the economy slows. More important, CEOs speak of a clear shift in the nature of the relationship with customers. On the business-to-business side, it is moving from a relationship-based culture to a value-driven one. While relationships are still important, you have to prove constantly that you are bringing value—an edge—to your customers. It is no longer just about quality products or services; it is about exceeding the customer’s very high expectations—and customers have long memories. The supplier–buyer relationship is evolving to more of a partnership that is centered on strategic goals (sustainability, for example, to make the supply chain less carbon-intensive) rather than just financial ones. On the business-to-consumer side, as traditional brick-and-mortar retail gives way to online shopping around the world, sellers need to, more than ever, concentrate on their customers. While big data—a top hot-button issue for CEOs globally—is critical to efficiently targeting customers and clients, there is a tendency to lose focus on the “high touch” part of customer relations. In Latin America, the combination of “high tech” and “high touch” is a cultural imperative. Consumers and customers are expecting companies to act like their friends, to do the right thing proactively: • Mixed strategies CEOs in the region, as well as their peers globally, are looking at a mix of greater understanding of the needs of their customers, coupled with personal commitment and better-quality products to meet this challenge. Sharpen understanding of customer/client needs is the top strategy globally and ranks second in Latin America. Plus, CEOs in the region see personal outreach as critical. Engage personally with key customers/clients is the fourthranked strategy in Latin America to meet this challenge and a top-five strategy in every other global region. It is a key to developing a truly customer-centric organization. Also, CEOs in the region see considerable value in using competitive intelligence to better understand customer needs. They give this strategy the highest ranking of any region at third.

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• The conflict between speed and quality CEOs in Latin America are highly focused on both speed to market and quality products to win the customer relationship battle. Their top strategy is enhance quality of products/services, while increase speed of products and services to market is fifth. Making the decision as to when a new product or service is “good enough” to go is really about risk assessment. While time-to-market decisions can be an important determinate of a product or service’s success or failure, it is certainly not the only factor, and companies in the region are notorious for choosing speed over quality at launch time. • Recognition of customer frontliners While it is possible to electronically capture and measure every customer interaction, globally CEOs are in danger of overlooking a critical element—their customer-facing, customer-touching staff. The same cannot be said about CEOs in Latin America and developing Asia. Arguably, the most effective way to communicate your brand promise is through frontline employees, yet CEOs in the mature markets of the United States and Europe are not grasping that the customer-facing people are the brand. Provide incentives for frontline employees to improve customer engagement is the ninth-ranked strategy globally (it is tied for eleventh in Europe and twelfth in the United States) to meet the Customer Relationships challenge, but receives relatively high rankings in Latin America and Asia at sixth. Hearing the voice of the customer is critical to improving customer relationships; Latin American CEOs trying to improve quality and increase speed to market Global N=699

CUSTOMER RELATIONSHIPS STRATEGIES 2014

Latin America

United States

Asia

Europe

N=74

N=183

N=305

N=76

1

Sharpen understanding of customer/client needs

2

1

1

1

2

Enhance quality of products/services

1

4

2

2

3

Engage personally with key customers/clients

4

2

3

3

4

Tailor marketing, promotion, and communications campaigns to key customer needs

7

3

5

5

5

Broaden range of products/services

T11

5

4

7

6

Increase transparency of customer relationship processes

9

11

7

6

7

Increase speed of products and services to market

5

9

9

4

3

7

10

9

6

12

6

T11

8 9

Use competitive intelligence to better understand customer/client needs Provide incentives for frontline employees to improve customer engagement

10

Increase user-friendliness of products/services

8

6

11

8

11

Use social media and new communication technologies

10

8

12

10

12

Promote sustainable products/services

T11

13

8

13

13

Employ new metrics on customer engagement and retention

13

10

13

T11

14

Lower price of products/services

14

14

14

14

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy.

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MEETING THE TOP CHALLENGES IN LATIN AMERICA INNOVATION

INNOVATION

T3

4

4

2

2

Global

Latin America

United States

Asia

Europe

It’s Not about Money; It’s about Culture

Defining Innovation Innovation is creating value through new products, new processes, business models, and organizational structures to meet and anticipate customer demands and remain competitive in a global marketplace.

Crisis is one driver of innovation, and Latin America seems to be in constant crisis. Success in the region is about speed, and companies are willing to take risks to get new products to market faster. Culture is uppermost in the minds of Latin America’s CEOs when it comes to fostering the conditions in which Innovation can thrive. Three of the top five strategies for this challenge are people related; of note, CEOs in Latin America rank create culture of innovation by promoting and rewarding entrepreneurship and risk taking and develop innovation skills for all employees as their top two strategies, indicating that fueling growth will take the collective efforts of all employees in an enterprise. The regional importance of innovation is reinforced by the selection by CEOs in Latin America of leading change, as the second-ranked future leadership attribute (after integrity), inspire innovation ranked fifth, creativity sixth, and entrepreneurial mindset seventh. • The link to human capital Three of the top five strategies to support innovation in Latin America are related to people. Create culture of innovation by promoting and rewarding entrepreneurship and risk taking, develop innovation skills for all employees, and find, engage, and incentivize key talent for innovation are in the top five globally, as well as in Latin America. Based on these high-ranked strategies, it is clear that the human capital function plays a critical role in developing the proper environment that allows innovation to flourish. Often, this connection is underappreciated in organizations. The high ranking of develop innovation skills for all employees points to the realization that truly innovative companies open innovation to the entire enterprise, rather than reserving the task of creativity for a specially chosen few in an organization. • Tech enables Technology remains a critical enabler of innovation throughout Latin America— an indication that tech can still play an even more important role in fueling growth in labor-intensive economies than it can in the more mature capital-intensive ones. Apply new technologies (product, process, information, etc.) is the third-ranked strategy regionally. Much of Latin America is still focused on the quick gains that technology can add to productivity in emerging labor-intensive economies. • Not a Western monopoly…but For Latin America, the focus on innovation underscores the attempt of emerging economies to move up the global value chain as they transform from cheap sources of product manufacturing to product creators and innovators. For many of these emerging economies, the quest is no longer a product label that says “Made in,” but rather one that boasts “Designed in” or “Created in.” However, the scarcity of entrepreneurial engineers who are comfortable with risk taking also holds back long-term fundamental breakthrough innovation in the region. • No government help Latin American CEOs, along with their global peers, do not see government playing a role as an innovation partner. Seek government support and funding for research and development is the bottom-ranked Innovation strategy globally and third from last regionally.

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• Co-creation CEOs in Latin America recognize that to maximize their innovation potential, they need to pursue partners outside their corporate walls. Engage in strategic alliances with customers, suppliers, and/or other business partners is seen to be a critical strategy. It is tied for fourth in the region. However, there are limits to this pursuit. Regionally, CEOs are reluctant to accept open-innovation concepts as part of their strategies to meet this challenge. They rank pursue open innovation concepts twelfth on the strategy list—the lowest ranking of any regional group. Europe gives it the highest ranking at fourth.

“Innovation has no geographic, gender, or age barriers. The USA…still is the center of innovation. Companies like Apple, Google, and Facebook show this. Keys are to promote innovation as a corporate obsession and core value and to give staff space and resources for new ideas and their execution. Top management has to drive people to try new methods, even when current ones are delivering good results.” Carlos Mario Giraldo Moreno President, Grupo Éxito, Colombia

CEOs in Latin America see creating a culture of innovation as a key enabler of success Global N=648

1 2 3 4

INNOVATION STRATEGIES 2014 Create culture of innovation by promoting and rewarding entrepreneurship and risk taking Apply new technologies (product, process, information, etc.) Find, engage, and incentivize key talent for innovation Engage in strategic alliances with customers, suppliers, and/or other business partners

Latin America

United States

Asia

Europe

N=77

N=149

N=301

N=61

1

1

3

1

3

3

T1

2

T4

5

T1

5

T4

2

6

6

5

Develop innovation skills for all employees

2

4

5

8

6

Change business model

10

10

8

3

Invest more in long-term research and development Leverage expertise of senior leaders to develop high potentials and transfer knowledge Encourage more product-specific incremental innovation for the short term

9

9

4

7

7

7

7

9

6

6

9

10

10

Pursue open innovation concepts

12

11

11

4

11

Leverage competitive business intelligence

8

8

14

11

11

12

12

12

14

13

10

14

15

14

13

13

13

15

15

15

7 8 9

12 13 14 15

Use social media tools for internal knowledge sharing Support the strengthening of intellectual property and patent protection Increase use of third-party providers to conduct research and development Seek government support and funding for research and development

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy.

28

research Report  The Conference Board CEO Challenge 2014: latin america edition

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MEETING THE TOP CHALLENGES IN LATIN AMERICA GOVERNMENT REGULATION

GOVERNMENT REGULATION

7

5

T5

8

9

Global

Latin America

United States

Asia

Europe

Getting Their House in Order Despite the fall of Government Regulation to seventh in the global ranking of challenges in 2014 (it was fourth in 2012 and sixth in 2013), it remains a top-five challenge in Latin America (and the United States). CEOs across the globe generally see regulatory compliance as a moving target that complicates long-term strategic planning and investment, and talent decisions. The challenge, especially in emerging markets, is often not just regulation but also alignment with myriad overarching government policies—often vague, contradictory, or unclear— to create the “regulatory space” needed to access new markets, obtain approvals and regulatory dispensations, or defend existing businesses. It is no surprise that Government Regulation remains a critical challenge for CEOs in Latin America—a fact underscored by the high ranking given regulatory-related issues by Latin American CEOs when it comes to hot-button issues (complying with government regulations on bribery and corruption is fifth) and in response to the question about short-term impacts on the local business environment (more government regulation and government bureaucracy are the second and fourth most-cited issues). However, it is clear that CEOs in Latin America do see opportunity in this challenge as well. They rank focus on competitive opportunities created by regulation as the numberone strategy to deal with this challenge. They clearly see the dichotomy inherent in regulation and its impact on business. It can either be an impediment to growth or an impetus to innovate new products, processes, and business models to gain competitive advantage over slower-moving rivals. Compounding the fallout from government-led regulation is that trade and industry organizations are requiring more uniform standards of practice and reporting. Business leaders in the region must become more comfortable with the levels of governance and with oversight from outside. After all, the costs of noncompliance, especially for corporate and personal reputation, can be very high. • Compliance and engagement To meet the Government Regulation challenge, CEOs in the region are looking to get their own houses in order, placing emphasis on compliance and public engagement. They rank strengthen internal regulatory compliance processes as their third most-favored strategy and encourage more industry self-regulation at number five. They also are comfortable with engaging competitors to influence the regulatory agenda. Engage with competitors to influence regulatory agenda is their fourth-ranked strategy to meet this challenge. • Personal influence CEOs in the region clearly believe in their personal persuasive powers to influence the regulatory agenda. They rank personally spend more time with regulators second on their strategy list.

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research Report  The Conference Board CEO Challenge 2014: latin america edition

29


Latin American CEOs seek first to get their own houses in order but they are also focusing on the opportunities created by regulation Global N=425

1 2 3 4 5 6 7 8 9 10

11 12 13

GOVERNMENT REGULATION STRATEGIES 2014 Strengthen internal regulatory compliance processes Focus on competitive opportunities created by regulation Engage with competitors to influence regulatory agenda Personally spend more time with regulators Increase lobbying activities to promote a level playing field Engage with the public to influence government Encourage more industry selfregulation Use media more effectively to get story told Engage in public/private partnerships Strengthen understanding of international laws and other rules of business conduct Relocate to countries with fewer restrictions and less government oversight Increase corporate spending on political campaigns Consider delisting from certain stock exchanges

Latin America

United States

Asia

Europe

N=58

N=95

N=183

N-45

3

3

1

4

1

1

2

6

4

2

4

2

2

8

3

3

7

4

7

1

6

5

5

8

5

9

6

7

10

7

9

5

9

6

10

10

8

10

8

9

11

12

11

11

T12

11

12

NR

T12

13

NR

NR

N=Number of overall responses. T=Tie. The response rate varies for each strategy. Each score represents the mean of the ranks given the strategy.

30

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APPENDIX TABLES Top five strategies to meet the top five challenges in Latin America

6 Global Political/

7 Global/International 8 Corporate Brand

9 Trust in

10 Sustainability

1

Improve our organizational agility/flexibility

Form joint ventures in target geographic markets

Enhance quality of products and processes

Improve training and understanding of internal ethics codes

Enhance portfolio of sustainable products and services

2

Integrate long-term risk recognition into strategic planning

Enter new geographic markets with existing products/services

Ensure ethical accountability throughout the organization

Better communicate corporate values within the organization

Improve sustainability measurement and reporting

3

Manage currency risk

Develop local management talent for top roles

Use social media and new communication technologies

Focus on my own behavior as a model of ethical leadership

Engage with stakeholders to manage short-term performance pressures with long-term sustainability goals

4

Diversify supply chain

Acquire companies in target geographic markets

Improve alignment of business practices/ management behavior with corporate values

Improve transparency of decision-making processes internally

Incorporate social and sustainability goals into corporate strategic performance objectives

5

Reduce exposure to risky countries/ regions

Introduce new “localized� products/ services for customers/clients in new geographic markets

Ensure compliance with corporate brand identity and values amongst strategic business partners and suppliers

Better align executive compensation and incentives with business performance

Invest in new technologies to reduce both environmental impact and exposure to resource scarcity

Economic Risk

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Expansion

and Reputation

Business

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Top five strategies to meet the top five challenges in Brazil

1 Operational

2 Human Capital

3 Customer

5 Government

5 Innovation

1

Raise employee engagement to drive productivity

Provide employee training and development

Enhance quality of products/services

Strengthen internal regulatory compliance processes

Apply new technologies (product, process, information, etc.)

2

Redesign business processes

Improve performance management processes and accountability

Use competitive intelligence to better understand customer/ client needs

Encourage more industry self-regulation

Create culture of innovation by promoting and rewarding entrepreneurship and risk taking

3

Improve our organizational agility/flexibility

Increase efforts to retain critical talent

Sharpen understanding of customer/client needs

Personally spend more time with regulators

Engage in strategic alliances with customers, suppliers, and/or other business partners

4

Improve speed to market

Improve leadership development programs

Engage personally with key customers/clients

Focus on competitive opportunities created by regulation

Develop innovation skills for all employees

5

Continual improvement (Six Sigma, total quality, etc.)

Focus on internally developed talent to fill key roles

T5 Tailor marketing, promotion, and communications campaigns to key customer needs

T5 Engage with competitors to influence regulatory agenda

Find, engage, and incentivize key talent for innovation

Excellence

Relationships

T5 Increase userfriendliness of products/services

32

research Report  The Conference Board CEO Challenge 2014: latin america edition

Regulation

T5 Strengthen understanding of international laws and other rules of business conduct

www.conferenceboard.org


Top five strategies to meet the top five challenges in Mexico

1 Operational

2 Innovation

3 Customer

4 Human Capital

5 Government

1

Improve our organizational agility/ flexibility

Create culture of innovation by promoting and rewarding entrepreneurship and risk taking

Increase speed of products and services to market

Improve performance management processes and accountability

Focus on competitive opportunities created by regulation

2

Improve speed to market

Develop innovation skills for all employees

Sharpen understanding of customer/client needs

Provide employee training and development

Personally spend more time with regulators

3

Seek better alignment between strategy, objectives and organizational capabilities

Find, engage, and incentivize key talent for innovation

Enhance quality of products/services

Improve leadership development programs

Engage with competitors to influence regulatory agenda

4

Improve performance and accountability of middle management

Encourage more product specific incremental innovation for the short term

Engage personally with key customers/clients

Improve effectiveness of frontline supervisors and managers

Engage with the public to influence government

5

Redesign business processes

Apply new technologies (product, process, information, etc.)

Use competitive intelligence to better understand customer/ client needs

Raise employee engagement

Encourage more industry self-regulation

Excellence

www.conferenceboard.org

Relationships

Regulation

research Report  The Conference Board CEO Challenge 2014: latin america edition

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Top five strategies to meet the top five challenges in Peru

1 Operational

2 Human Capital

3 Innovation

4 Customer

5 Corporate Brand

1

Continual improvement (six sigma, total quality, etc.)

Provide employee training and development

Apply new technologies (product, process, information, etc.)

Enhance quality of products/services

Enhance quality of products and processes

2

Redesign business processes

Increase efforts to retain critical talent

Develop innovation skills for all employees

Sharpen understanding of customer/ client needs

Communicate corporate values to customers and key stakeholders

3

Improve our organizational agility/ flexibility

Improve leadership development programs

Engage in strategic alliances with customers, suppliers, and/or other business partners

Engage personally with key customers/clients

Use social media and new communication technologies

4

Seek better alignment between strategy, objectives and organizational capabilities

Improve effectiveness of frontline supervisors and managers

Create culture of innovation by promoting and rewarding entrepreneurship and risk taking

Increase transparency of customer relationship processes

Ensure ethical accountability throughout the organization

5

Raise employee engagement to drive productivity

Raise employee engagement

Find, engage, and incentivize key talent for innovation

Use competitive intelligence to better understand customer/ client needs

Increase investment in corporate brand communication externally

34

research Report  The Conference Board CEO Challenge 2014: latin america edition

Excellence

Relationships

and Reputation

www.conferenceboard.org


Top five strategies to meet the top five challenges in Colombia

1 Customer

2 Human Capital

3 Operational

4 Innovation

5 Government

1

Enhance quality of products/services

Increase efforts to retain critical talent

Raise employee engagement to drive productivity

Create culture of innovation by promoting and rewarding entrepreneurship and risk taking

Personally spend more time with regulators

2

Sharpen understanding of customer/client needs

Provide employee training and development

Invest more in new technologies

Find, engage, and incentivize key talent for innovation

Encourage more industry self-regulation

3

Provide incentives for frontline employees to improve customer engagement

Improve leadership development programs

Achieve economies of scale through product/process standardization and harmonization

Develop innovation skills for all employees

Focus on competitive opportunities created by regulation

4

Use competitive intelligence to better understand customer/ client needs

Improve performance management processes and accountability

Better align IT with business goals

Engage in strategic alliances with customers, suppliers, and/or other business partners

Engage in public/ private partnerships

5

Engage personally with key customers/clients

Invest in education systems to improve workforce readiness

Redesign business processes

Apply new technologies (product, process, information, etc.)

Engage with competitors to influence regulatory agenda

Relationships

www.conferenceboard.org

Excellence

Regulation

research Report  The Conference Board CEO Challenge 2014: latin america edition

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ABOUT THIS REPORT Survey Methodology

Definition of Challenges

This report is based on responses from CEOs, presidents, and chairmen to The Conference Board CEO Challenge® survey, distributed between September and October 2013. Respondents were asked to rank order their top five challenges from a list of 10.

Corporate brand and reputation How your organization and its product and services are viewed by stakeholders.

To reach the aggregate ranking of challenges and to develop an importance-adjusted score, two additional computations were conducted. First, to reflect the ranking of the challenges by the respondents, each challenge was assigned a weight: if a particular challenge was ranked one, it was given a weight of five, a number two rank was given a weight of four, and a ranking of number three was given a weight of three, and so forth through the top five. (Challenges that were not ranked by respondents among the top five received zero weight.) Second, each weighted score was then assigned an additional weight based on the share of respondent’s country GDP as a proportion of all countries represented in the survey sample relative to the share of that country’s respondents in the total of 1,020 responses. Similar weights were assigned to regions, industry sectors, and revenue groups. For greater insight into how CEOs plan to meet their challenges, respondents were also asked to rank order five critical “strategies” (or strategic priorities) for meeting each of their top five challenges, which were weighted in the same way as the challenges. We acknowledge that a survey of 1,020 respondents creates limitations regarding the statistical significance of the rankings. Therefore, the results presented are mostly for groupings of more than 50 respondents. In particular, for the smaller samples, the rankings provide a qualitative and directional indication of the importance of challenges. Two additional questions were added to the 2014 survey; one asking respondents to identify their top three “hotbutton” issues, those events or issues that will require the attention of respondents in the coming year. A second question asked respondents to select three attributes or behaviors that they felt future leaders must exhibit to be successful in an evolving business environment. Changes were also made in several of the strategy lists to better reflect the reality of the business environment.

36

Innovation Creating value through new products, new processes, business models, and organizational structures to meet and anticipate customer demands and remain competitive in a global marketplace. Global political/economic risk Dealing with social, political, economic, and physical and cybersecurity factors in the global business environment. Global/international expansion Seeking growth in multiple markets outside your home country. Operational excellence The measure of effectiveness, efficiency, and alignment of an organization’s processes, strategies, tactics, culture, and methodologies in such functions as finance, talent, governance, and operations that must be optimized to achieve business objectives and goals. Trust in business The faith and expectation that corporations and business leaders will do the right thing, will operate in an ethical manner, and meet the social, moral, and environmental expectations of stakeholders by doing business according to societal norms, values, rules, and laws. Customer relationships How your company interacts with customers; winning and retaining customers. Sustainability Corporate commitment to accountability for the triple bottom line of financial, social, and environmental obligations and opportunities. These include elements of corporate citizenship, environmental sustainability, and green business. Government regulation The impact on the business environment of government rules, regulations, and reporting requirements. Human capital Addresses the full spectrum of the employee/employer experience, which includes understanding global labor markets and workforce readiness; determining the skills and competencies companies need to compete and win; creating a compelling employment brand; managing compensation, benefits, and wellness programs; attracting, developing, rewarding, engaging, and retaining diverse talent; managing performance; growing leaders at all levels; managing succession; and articulating the impact of these efforts in business terms.

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ABOUT THE 2014 SURVEY Region

Valid Percentage

Frequency

Asia

479

Industry

47.0%

Frequency

Manufacturing

Valid Percentage

292

30.4%

Europe

105

10.3

Finance

106

11.0

United States

233

22.8

Service

564

58.6

Latin America

114

11.2

TOTAL

962

100.0%

89

8.7

Rest of the world TOTAL

1020

Revenues

100.0%

Valid Percentage

Frequency

Less than $100 million

583

59.4%

$100 million to under $1 billion

205

20.9

$1 billion to under $5 billion

102

10.4

92

9.4

982

100.0%

$5 billion and above TOTAL

Asia Revenues by Region

Europe Count %

Count

%

296

64.6%

54

$100 million to under $1 billion

99

21.6

$1 billion to under $5 billion

33

7.2

Less than $100 million

$5 billion and above TOTAL

United States Count %

Latin America Count %

Rest of the world Count %

52.4%

150

66.7%

51

45.5%

32

38.1%

12

11.7

32

14.2

36

32.1

26

31.0

19

18.4

18

8.0

13

11.6

19

22.6

30

6.6

18

17.5

25

11.1

12

10.7

7

8.3

458

100.0%

103

100.0%

225

100.0%

112

100.0%

84

100.0%

The 2014 CEO Challenge Team

Regional Partners

Authors Charles Mitchell, Rebecca L. Ray, and Bart van Ark

Latin America

Analysts Bart van Ark, Rebecca L. Ray, Charles Mitchell, Rainer Schultheis, David Hoffman, and Matteo Tonello

Mercer & Marsh

Project Manager Lindsay Collins

Europe and Middle East Greece Hellenic Management Association

Data Analysis Judit Torok, Lynn Franco

United Kingdom Chartered Management Institute

Managing Editor Timothy Dennison Editors Sara Churchville, Susan Stewart, and Marta Rodin

Asia-Pacific

Design Peter Drubin

Australia Australian Institute of Management

Production Andrew Ashwell

China Fortune China

Communications Ralph Piscitelli, Peter Tulupman, and Simon Graham

Hong Kong Hong Kong Management Association

Business Information Service Diane Shimek

Malaysia Malaysian Institute of Management

Other Contributors Mary Jacobson, Nick Sutcliffe, Salome Woo, Julian D’Souza, Vittoria Barbaso, Anke Schrader, Claire Xia, and Amanda Popiela

Malaysia Asian Institute of Finance

Indonesia Indonesian Institute for Corporate Directorship

Philippines Makati Business Club Singapore Singapore Business Federation Thailand Thailand Management Association

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37


ABOUT THE AUTHORS Charles Mitchell, the executive director, knowledge content and quality, at The Conference Board, is responsible for the development of member-generated content and ensuring the objectivity, independence, accuracy, and business relevance of the organization’s research. He also serves as publisher of The Conference Board Review®. Since joining The Conference Board in 1997 as the head of publishing, he has authored dozens of reports on business and economic issues. Prior to joining The Conference Board, Mitchell spent 14 years as a reporter and writer for United Press International, based in Johannesburg, Nairobi, Moscow, and Washington, D.C. He was foreign editor of the Detroit Free Press from 1990 to 1996 and European editor for World Business magazine. A graduate of the University of Pennsylvania, Mitchell is also the author of several books dealing with international business cultures, customs, and etiquette published by World Trade Press. Rebecca L. Ray is executive vice president, knowledge organization, and human capital lead at The Conference Board. She hosts the monthly Human Capital Watch™ webcast, which explores current issues, research and practitioner successes for the members of The Conference Board. She oversees the Human Capital Exchange™, a website that offers research and insights from The Conference Board, our knowledge partners, and human capital practitioners. In addition, she serves as the Director of The Engagement Institute™, a research community of practice and a joint venture with Sirota Consulting and Deloitte. Ray was previously a senior executive responsible for talent management at several Fortune 500 companies. Ray received her PhD from New York University, and is the author of numerous articles and books, including her co-authored work Measuring Leadership Development, which was published

38

by McGraw-Hill in 2012. She taught at Oxford University and New York University, and led a consulting practice for many years, offering leadership assessment and development services to Fortune 500 companies and top-tier professional services firms. Ray was named “Chief Learning Officer of the Year” by Chief Learning Officer magazine and one of the “Top 100 People in Leadership Development” by Warren Bennis’s Leadership Excellence magazine. She serves on the advisory boards for New York University’s program in higher education/ business education at The Steinhardt School of Education and the University of Pennsylvania executive program in workbased learning leadership. She also serves on the Business Practices Council of the Association to Advance Collegiate Schools of Business. Bart van Ark is executive vice president and chief economist of The Conference Board. He leads a team of almost two dozen economists who produce a range of widely watched economic indicators and growth forecasts, as well as in-depth global economic research. A Dutch national, he is the first non-US chief economist in the 95-year history of The Conference Board. Van Ark is an expert in international comparative studies of economic performance, productivity, and innovation and has been extensively published in national and international journals, including the Journal of Economic Perspectives, Economic Policy, Review of Income and Wealth, and The Brookings Papers on Economic Activity. He is a member of the editorial boards of several academic journals and serves on various advisory committees in the areas of productivity and national accounts. Van Ark obtained his master’s degree and PhD in economics from the University of Groningen in The Netherlands.

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Related Resources from The Conference Board Reports and Publications TCBR_MarchApril09.qxp:TCB_WINTER 09

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The Conference Board Review is the quarterly magazine of The Conference Board. Founded in 1976, it is a magazine of ideas and opinion for the world’s business leaders that raises tough questions about leading-edge issues at the intersection of business and society. www.tcbreview.com

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CEO Challenges in the Gulf Region GULF COOPERATION COUNCIL EDITION

COUNTERING THE GLOBAL SLOWDOWN OPTIMIZING TALENT AND OPERATIONAL PERFORMANCE TO CREATE COMPETITIVE ADVANTAGE


The Conference Board creates and disseminates knowledge about management and the marketplace to help businesses strengthen their performance and better serve society. Working as a global, independent membership organization in the public interest, we conduct research, convene conferences, make forecasts, assess trends, publish information and analysis, and bring executives together to learn from one another. The Conference Board is a not-for-profit organization and holds 501(c)(3) tax-exempt status in the United States of America. www.conferenceboard.org


CEO Challenges in the Gulf Region Countering the Global Slowdown: Optimizing Talent and Operational Performance to Create Competitive Advantage GULF COOPERATION COUNCIL EDITION* RESEARCH REPORT 1545-14-RR

CONTENTS

4 5 6

Introduction: Managing in a Slower Growth Environment The GCC at a Glance The 2014 Survey: Human Capital as an Engine of Growth

8 11 12 13 14 15 16 17

The 2013 Challenges Government Regulation Coping with a New Era of Global Regulation Human Capital Customer Relationships Corporate Brand and Reputation Global Political/Economic Risk Scenario Planning as a Risk Management Tool

19

Conclusion: Managing the Reality of Slow Economic Growth

20

About This Report Survey Methodology Definition of Challenges

21

Survey Demographics Our Partners About the Gulf Investment Corporation About The Federation of GCC Chambers of Commerce and Industry (FGCC Chambers)

22

About the Authors

*The Gulf Cooperation Council CEO Survey was jointly conducted by The Conference Board, Gulf Investment Corporation (GIC), and the Federation of GCC Chambers of Commerce and Industry (FGCCC). GIC was established in 1983 by the GCC leaders in order to promote economic development and enhance the economic integration of the GCC economies. GIC is owned equally by the six GCC governments: Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates. The FGCCC was launched in 1979 and comprises the chambers of commerce, industry, and agriculture in the GCC economies. It aims at enhancing economic cooperation among the GCC countries.

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3


INTRODUCTION: MANAGING IN A SLOWER GROWTH ENVIRONMENT The global economy is under stress. As 2013 drew to a close, Europe inched its way out of recession but with little hope of meaningful growth on the horizon. In the United States, the hoped-for acceleration in growth remained fairly anemic, and the economy was still not creating enough new jobs. The cooling of the once white-hot growth rates of China, India, and Brazil means there will not be an emerging market miracle to offset the stagnation and weak growth in the mature economies. Emerging and developing markets were expected to grow at 5 percent in 2013, down from 5.5 percent in 2012. In its global economic outlook for 2013, The Conference Board predicted a disappointingly low 2.9 percent global GDP growth rate for the year, about 0.3 percentage points below 2012’s performance and well behind the between 4 and 5 percent rates witnessed just 10 years ago. Meanwhile the GDP growth rate for the Middle East as a whole was expected to slow significantly in 2013 to just 2.2 percent, well below the 2012 growth rate of 5.5 percent and well below the longer-term trend of between 4 and 4.5 percent. The ongoing political drama in Washington, the once-in-a-decade leadership transition in China, the unresolved outcomes of the Arab Spring and civil war in Syria, the lingering debt crisis—a sword of Damocles that still hangs over Europe and, to varying degrees, the entire global economy—and a creeping protectionism that is causing international trade tensions and tougher job competition are clouding the business environment and challenging corporate growth strategies while continuing to create risk and volatility in global markets. Since 1999, The Conference Board CEO Challenge® survey has asked CEOs, presidents, and chairmen across the globe to identify their most critical challenges for the coming year. Four of the five top challenges selected by the 729 global respondents to the 2013 survey—Human Capital, Operational Excellence, Innovation, and Customer Relationships—showed executives’ determination to “control the controllable” and prime their organizations for the slow-growth slog ahead. While agreeing on the importance of Human Capital and Customer Relationships to fuel growth, CEOs in the GCC region reported a significantly different set of priorities than did CEOs globally; they are looking at contrasting strategies that reflect the unique business environment challenges of a resource-rich and energy-dependent region.

4

research Report CEO Challenges in the Gulf Region

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The GCC at a Glance The six countries that form the GCC are strategically located in Western Asia and hold about 33 percent of the global oil reserves and 22 percent of the world’s natural gas reserves. They also accumulated vast trade surpluses and financial resources and maintained solid economic growth between 2002 and 2012, averaging 5 percent. Their fiscal surplus averaged 10 percent from 2002 to 2012, and their combined debt-to-GDP ratio is comfortable at 40 percent or less. The GCC economies have succeeded in improving their global competitiveness ranking by pursuing open border–open trade

2012 Population Nominal 2012 GDP (thousands) (US$millions)

policies and by adopting investment and businessfriendly rules and regulations. Their private sector is contributing robustly to their growth and sustainability. The six members of the GCC also share similar political systems and a common social and cultural outlook. Last but not least, the GCC is a major source of foreign investment capital: by 2020, GCC countries are expected to have over US$3.5 trillion in sovereign wealth fund holdings.

GDP per capita 2012E (US$)

Real GDP growth (%)

Total debt/ GDP (%)*

Inflation (2012)

5Y CD $ Spreads (bps)1

Moody’s credit rating3

Comments

Bahrain

1,394

30,357

20,524

3.4%

32.4%

2.8%

250

Baa1/RUR-

Led by financial sector

Kuwait

2,877

187,889

45,017

4.9%

7.1%

2.9%

NA

Aa2/Stable

Oil rich/US$100 billion fiscal spending planned

Oman

2,893

78,111

22,083

5.5%

4.1%

2.9%

NA

A1/Stable

Qatar

1,869

192,403

100,016

6.2%

35.8%

1.9%

71.02

Aa2/Stable

Largest economic growth/wealthiest population

Saudi Arabia

28,684

711,050

25,466

5.1%

0.1%

2.9%

65

Aa3/Stable

Largest oil reserves/ massive infrastructure spend

7,857

383,799

27,380

4.4%

22.1%

0.7%

592

Aa2/Stable

Strong private sector recovery

United Arab Emirates

Diversified economy

* Central Government Total Gross Debt. (1) (2) (3)

As of September 18, 2013 For Abu Dhabi Moody’s Investor Service Report, August 2013

Sources: Oxford Economics; Institute of International Finance

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The 2014 Survey: Human Capital as an Engine of Growth Results of the 2014 CEO Challenge survey show CEOs around the globe are focusing on people and performance while reconnecting with customers and reshaping the culture of work. While the economic and business environments remain challenging in most places around the world, the 2014 edition of The Conference Board CEO Challenge® survey finds business leaders across the globe more focused on holding their management team personally accountable for business performance than in earlier years. Creating a performance-based management system, developing new skills, and engaging their people across the ranks and across the enterprise are their focus as they strive to reshape workplace culture to improve competitiveness, win new customers, and raise productivity. Many are seeking strong business leadership that is able to drive change and is not afraid to boldly innovate (and even fail) in a performancefocused environment. They also see a renewed

commitment to customers and the corporate brand as keys to driving enterprise growth even in what promises to be a slow global growth environment for some time to come. And to accomplish this, they recognize the importance of developing an engaged workforce and a diverse and accountable leadership team. As in previous years, we do see a clear recognition among CEOs that Human Capital is the engine of the enterprise. Globally in 2014, Human Capital is decisively the most important challenge for CEOs—it was either first or second in Asia, the United States, Europe, and Latin America. Human Capital is, in essence, the thread that runs through the other top-ranked challenges globally—Customer Relationships, Innovation, Operational Excellence, and Corporate Brand and Reputation—and forms the basis for strategic action. After all, without a talented, engaged, and properly motivated workforce, achieving progress against these challenges is impossible.

Human Capital remains the top challenge, but CEOs are getting more focused on Customer Relationships and Corporate Brand and Reputation Global N=1,020

CHALLENGES 2014

Global 2013* N=729

Global 2012 N=776

1

Human Capital

1

2

2

Customer Relationships

4

7

T3

Innovation

3

1

T3

Operational Excellence

2

NA

5

Corporate Brand and Reputation

8

9

6

Global Political/Economic Risk

5

3

7

Government Regulation

6

4

8

Sustainability

9

8

9

Global/International Expansion

7

5

10

Trust in Business

10

NA

N=Number of overall responses. T=Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “About This Report” on page 20. *Operational Excellence was added to the list of challenges in 2013 to replace Cost Optimization. Trust in Business was also added in 2013 to replace Investor Relations. Source: The Conference Board

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The 2014 Survey: Human Capital as an Engine of Growth (continued...) In times of slow growth, smart companies are repositioning themselves to win market share battles against relentless global competition— hence the rise of both Customer Relationships and Corporate Brand and Reputation in the 2014 survey into top five positions. Both of these challenges, especially Corporate Brand and Reputation, were more afterthoughts than up-front issues for CEOs in previous years’ surveys. Now they seem to have grabbed the attention of CEOs across the world. Continuing the trend that surfaced in the 2013 survey, CEO concerns about the global risk environment and the intrusion of government regulation in business continue to ease. Global Political/Economic Risk, which was the third-ranked challenge globally in 2012 and fifth in the 2013 survey, is sixth in 2014. Also Government Regulation, the top concern of CEOs in the United States and a top five challenge globally as recently as 2012, now falls near the bottom of the challenge list globally in 2014, though it does make the top five in the United States and Latin America. While the challenges listed in this survey represent big-picture issues confronting organizations, in the 2014 edition of the survey we added a question on hot-button issues—more immediate and tactical events and situations that CEOs believe will require much of their attention in the coming year. Globally the number one hot-button issue is big data analytics—an issue that is just starting to emerge that, if executed correctly, can provide a competitive advantage in many ways. In general, we find the hot-button issues to be much more region or even country specific, such as health care in the United States, concerns about depression in Europe in the Euro Zone, financial instability in Asia, and labor relations in Latin America. In addition, we asked CEOs to tell us what they see as the essential traits and behaviors

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that future leaders must exhibit to succeed in an evolving business global environment. The global top five attributes featured prominently across all regions: integrity, leading change, managing complexity, entrepreneurial mind-set, and retaining and developing talent. While the focus tends to be on the top challenges selected by CEOs, it is interesting to look at those challenges mentioned less often. Sustainability (with the notable exception of China) and in particular Trust in Business have scored consistently low on the lists. For the second consecutive year (it was introduced as a challenge in the 2013 survey), Trust in Business finishes at the bottom of the challenge list globally and in every region except Latin America, where it is next to last before Sustainability. Big data is a big deal, but finance and currency issues dominate Global N=970

HOT-BUTTON ISSUES 2014

1

Big data analytics

2

Economic depression in Europe

3

Diversity in our leadership ranks

4

Currency volatility

5

Financial instability in China

6

Labor relations

7

Cybersecurity

8

Volatility in energy markets

9

Health care benefits for employees

10

Activist shareholders/stakeholders

11

Complying with government regulations on bribery and corruption

12

Physical redesign of corporate offices (open plan)

13

Human rights risk in our supply chain

NR

Public demand for closing corporate tax loopholes

NR=Issue was not ranked by any of the respondents. Source: The Conference Board

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THE 2013 CHALLENGES In today’s slow-growth global economy, CEOs around the world are taking a hard look at their own organizations, employees, customers, levels of efficiency, and innovation skills to plot a winning course in a challenging environment, according to the 2013 edition of The Conference Board CEO Challenge survey. Compared to the 2012 survey, CEOs globally appeared somewhat less concerned than participants in previous years about external factors in the business environment that they cannot control (e.g., macro issues of risk and regulation). But not so within the countries of the Gulf Cooperation Council. Government Regulation (a concern Gulf region CEOs share with their US counterparts though for very different reasons) was the top challenge in the region. Global Political/Economic Risk was also among the top challenges keeping CEOs in the GCC region awake at night. In a clear indication of the uniqueness of the present business environment in the region, CEOs of the GCC ranked Operational Excellence and Innovation at the very bottom of their challenge list, in direct contrast with their CEO counterparts around the globe, who placed these challenges among their top three. Snubbing the global conventional wisdom that innovation of both products and processes is a must-have—not a luxury—in today’s environment places the region’s future global competitiveness at stake, even as countries of the GCC attempt to diversify their industrial and service sectors away from overreliance on gas and oil and government support. The dominance of government in business in the region and the abundance of government-owned or quasi-government–owned businesses and institutions (along with the lack of true diversity throughout the commercial sector) have likely put a damper on innovation. Sheltered by oil and gas money, the region has few sectors that compete Government Regulation and Human Capital are top concerns, but unlike their global peers, GCC CEOs rank Operational Excellence and Innovation at the bottom of the list  Ranking

Global (N=729)

GCC (N=50)

1

Human Capital

Government Regulation

2

Operational Excellence*

Human Capital

3

Innovation

Customer Relationships

4

Customer Relationships

Corporate Brand and Reputation

5

Global Political/Economic Risk

Global Political/Economic Risk

6

Government Regulation

Trust in Business

7

Global Expansion

Sustainability

8

Corporate Brand and Reputation

Global Expansion

9

Sustainability

Operational Excellence

10

Trust in Business

Innovation

Note: N=Number of overall responses. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “About This Report” on page 20. *Operational Excellence was added to the list of challenges in 2013 to replace Cost Optimization. Trust in Business was also added in 2013 to replace Investor Relations. Source: The Conference Board

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Regional Views: CEOs in the Gulf Region march to a very different drummer Global Rank N=729

Challenges 2013*

Asia

Europe

United States

China

India

ASEAN

GCC

N=395

N=136

N=138

N=54

N=55

N=183

N=50

1

Human Capital

1

1

5

2

1

1

2

2

Operational Excellence

3

2

1

5

4

3

9

3

Innovation

2

T3

4

1

3

2

10

4

Customer Relationships

T5

5

3

6

6

4

3

5

Global Political/Economic Risk

4

T3

6

4

2

8

5

6

Government Regulation

7

6

2

T8

5

5

1

7

Global Expansion

T5

7

7

T8

7

9

8

8

Corporate Brand and Reputation

8

9

8

7

9

7

4

9

Sustainability

9

8

10

3

8

6

7

10

Trust in Business

10

10

9

10

10

10

6

N=Number of overall responses. T= Tie. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “About This Report� on page 20. *Operational Excellence was added to the list of challenges in 2013, replacing Cost Optimization. Trust in Business was also added in 2013, replacing Investor Relations. Source: The Conference Board

Top Five Strategies to Meet the Top Five Challenges in the GCC Region

1 Government Regulation

2 Human Capital (N=34)

(N=31)

3 Customer

Relationships (N=30)

4 Corporate Brand and Reputation (N=14)

5 Global Political/ Economic Risk (N=23)

1

Engage in public/ private partnerships

Grow talent internally

Increase speed of products and services to market

Improve alignment of business practices/ management behavior with corporate values

Establish crisis management teams and procedures

2

Strengthen understanding of international laws and other rules of business conduct

Provide employee training and development

Enhance quality of products/services

Enhance corporate brand awareness and understanding across different cultures

Reduce exposure to risky countries/regions

3

Encourage more industry self-regulation

Redesign financial rewards and incentives

Broaden range of products/services

Communicate corporate values to customers and key stakeholders

Implement contingency plans for crises (e.g., geographical, political, relocation of employees)

4

Strengthen internal regulatory compliance processes

Hire more talent in the open market

Sharpen understanding of customer/client needs

Enhance quality of products and processes

Diversify supply chain

5

Increase lobbying activities to promote a level playing field

Manage multigenerational workforce

Engage personally with key customers/clients

Ensure ethical accountability throughout the organization

Raise capital reserves

Source: The Conference Board

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globally either in products or services. The low ranking of Operational Excellence also likely speaks to the dominant position of oil and gas in the economy—two industries where technology has brought extraction performance to an enviable level of efficiency compared to less tech-heavy sectors. Overall there is simply little incentive or urgency to invest in innovation. The danger of regional complacency fueled by a lack of sector diversity poses a serious threat to the long-term sustainability and growth potential of the region. CEOs in the GCC region gave the Government Regulation challenge the highest ranking of any country or region in our 2013 survey (CEOs in the United States have it second, while CEOs in both India and the ASEAN community rank it fifth). That regulation is seen as the top challenge is really no surprise in a region dominated by industries that are run and owned by government or quasi-government entities. Coupled with the challenge of Global Political/Economic Risk (it was fifth on the radar of CEOs in the GCC), the results showed that CEOs in the Gulf were highly concerned about the macro business and regulatory environment. Managing in a slower-growth environment presents a unique set of challenges for business leaders. But while business leaders in other parts of the globe seek to leverage human capital, innovation, and operational excellence to create value, their counterparts in the GCC are focusing more on customers, sales, products, and brand reputation to create growth. While ranking Customer Relationships higher than their global counterparts (third as opposed to fourth), CEOs in the GCC were the only group to rank Corporate Brand and Reputation in their top five list of challenges. They ranked it fourth. (The next highest ranking was in China and in ASEAN at number seven; globally it ranked eighth). For Gulf CEOs, meeting critical challenges and achieving growth is about engaging and retaining good talent, improving internal knowledge and understanding of customers and clients, creating quality product and getting it to market in a timely fashion, focusing on strong corporate values, and successfully working with the government sector and the public to build relationships and influence agendas. This attitude stems from a realization that growth and profitability will be closely tied to their organizations’ own efforts, rather than to improved macroeconomic conditions, not only in the Gulf region but across the globe. While CEOs in the GCC do share some challenges with their global peers (most notably Human Capital), they are focused on a set of strategies to meet these challenges that reflect the uniqueness of the GCC economic environment.

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Government Regulation Obstacles and Opportunities

GOVERNMENT REGULATION

6

6

2

7

T8

5

5

1

Global

Europe

United States

Asia

China

India

ASEAN

GCC

To meet the Government Regulation challenge, CEOs in the GCC region were looking to get their own houses in order, placing greater emphasis on compliance and selfregulation than on attempts to influence the regulatory agenda, one that is a work in progress in the region. They ranked engage in public/private partnerships as their number one strategy, with strengthen understanding of international laws and other rules of business as number two, followed by encourage more industry self-regulation and strengthen internal regulatory compliance processes. Increase lobbying activities to promote a level playing field came in fifth.

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CEOs globally tend to see regulatory compliance in many countries as a continuously moving target that complicates long-term planning, investment, and talent decisions but also can create opportunity. Most share the view that regulation can be a double-edged sword—either an impediment to growth or an impetus to invest in and create new products, processes, and business models that exceed regulatory requirements, go further to meet consumer demands, and offer competitive advantage over slower-moving rivals. That, however, was not the case in the GCC region, reflecting the relative unimportance CEOs in the GCC place on innovation and the general frustration with regional bureaucracy. They ranked focus on competitive opportunities created by regulation ninth out of thirteen strategies—well below their counterparts in other regions of the world.

Like their colleagues in other regions, GCC CEOs appear to have little confidence in being able to use the media as an influencing tool. They rated use media more effectively to get story told toward the bottom of the strategy list at number ten, the same ranking it received globally.

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Coping with a New Era of Global Regulation Beyond government regulation, there will be more oversight and more scrutiny by nongovernmental organizations and other stakeholders. Trade and industry organizations are requiring more uniform standards of practice, reporting, and self-policing, as CEOs in the GCC region recognize. In strengthening their understanding of international business law and rules of conduct as they expand regionally and globally, business leaders in the Gulf have to become more comfortable with the levers of governance and with oversight from outside, including specific country regulations. The costs of noncompliance, especially for corporate and personal reputation, can be very high. When it comes to the skills required for leading in an era of increased global regulation and oversight, members of The Conference Board councils involved in leadership development say the leaders of today and those of the future must have the ability to:

• use relationship- and network-building skills that make them influencers, not dictators;

• shape policy by getting involved early in the cycle—reacting to policy means it’s probably too late to change it;

• avoid being perceived as self-serving by understanding that taking a broader view gives them credibility with stakeholders, from governments to customers; and

• be globally adaptable because the influencing skills that work in one part of the world won’t necessarily work in others. Source: Charles Mitchell, Go Where There Be Dragons—Leadership Essentials for 2020 and Beyond, The Conference Board, Council Perspectives 23, 2012.

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Human Capital Tight Labor Market Means Human Capital Is Critical Challenge for CEOs in the GCC

HUMAN CAPITAL

1

1

5

1

2

1

1

2

Global

Europe

United States

Asia

China

India

ASEAN

GCC

Like the rest of the world, the Gulf region is not immune from talent shortages and mismatches between the demand and supply of specific skills. The Gulf depends heavily on the importation of workers at all skill levels. One encouraging sign is that regional CEOs, like their counterparts in Europe, see investing in education as a way to avoid shortages in the future. Invest in education systems to improve workforce readiness ranked eleventh globally and was number seven in the GCC. Only Europe ranked it higher at number two.

CEOs in GCC countries favored different strategies for meeting the Human Capital challenge than their global peers did. They were more focused on looking for solutions both inside and outside their corporate walls. They ranked grow talent internally as their top strategy (as do CEOs globally and in all other regions), but they also ranked hire more talent in the open market as number four—the only region, along with talent-hungry ASEAN, to consider this a top five strategy.

The relatively low number eighteen ranking that GCC CEOs gave to improve leadership development programs reflected a global trend found in the 2013 report; namely, that many organizations are looking to broaden their definition of “talent” (the biggest lever a company has to improve performance) beyond just high potentials. Globally, improve leadership development programs, which respondents ranked second as a Human Capital strategy in 2012, dropped to tenth in the 2013 survey. Instead, provide employee training and development was ranked second globally and in the GCC region in the 2013 survey as countries seek to move up the global value chain—something that requires a more competitive workforce created through training and development. What appears to be a disconnect between CEOs and those responsible for talent management in the region lies in the low ranking (sixteenth globally as well as in India and Asia) of expand talent pools by recruiting nontraditional workers as a workable strategy to address talent shortfalls and the increased competition from regional economic integration. According to research conducted by The Conference Board, human capital professionals who are faced with building talent pipelines view this as an important strategy, especially in emerging markets.1 China, India, Thailand, Vietnam, and Malaysia are examples of countries with critical talent shortages, where easing the cultural and work-readiness barriers that reduce women’s participation in the labor force could significantly close the gap.

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GCC CEOs are also far more focused on dealing with multiple generations in the workplace and aligning compensation and benefits programs than their global peers. They were the only group to rank manage multigenerational workforce as a top five strategy to meet the Human Capital challenge, which reflects the youth-dominated demographics of the region. They were also the only group to rank redesign financial rewards and incentives among their top five strategies.

1

Rebecca L. Ray, Charles Mitchell, Amy Lui Abel, Patti P. Phillips, et al., The State of Human Capital 2012: False Summit, The Conference Board, Research Report 1501, 2012; and Charles Mitchell and Amy Lui Abel, Talent Management Tomorrow: Seeing around the Corner to Meet Strategic Business Needs, The Conference Board, Council Perspectives 43, 2012.

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Customer Relationships Improving Speed to Market and Better Quality Are the Paths to Solidifying Customer Relationships

CUSTOMER RELATIONSHIPS

4

5

3

T5

6

6

4

3

Global

Europe

United States

Asia

China

India

ASEAN

GCC

As the global information flow intensifies, customers themselves, whether they be individuals or businesses, are demanding different relationships with companies than they have had. In many cases, especially in the consumer sector, it is becoming less about the product and more about the consumer’s whole experience with a company. Consumers expect companies to act like their friends, to do the right thing proactively. The mantra for successful customer-centric organizations is: don’t think like a company; think like a customer. CEOs in the GCC region who responded to our survey clearly realized the importance of better understanding customer diversity and market segmentation.

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For CEOs in the GCC region, it is about speed, quality, and gaining a clear understanding of customer needs. They ranked increase speed of products and services to market as their number one strategy to meet the Customer Relationships challenge, with enhance quality of products/services as their number two strategy. As it does in Asia, the selection by CEOs within the GCC of these strategies highlights a critical trade-off between quality and speed to market faced by most companies in highly competitive markets. Making the decision as to when a new product or service is “good enough” to go to market and just how many flaws customers are willing to put up with in exchange for enhanced capabilities or the prestige of having the “latest thing” is really about risk assessment. While the time-to-market decision can be an important determinant of a product or service’s success or failure, it is certainly not the only factor, and companies in Asia are notorious for often choosing speed over quality at launch time. Considering the concern of CEOs in the GCC region about Corporate Brand and Reputation (the fourth-ranked challenge in the region), the speed vs. quality trade-off takes on added urgency and importance.

CEOs in the GCC share with their global peers a commitment to achieving a better understanding of their customers through more personal involvement—an issue whose importance should not be underestimated when it comes to the development and transmission of an enterprise-wide customer-centric culture. They ranked sharpen understanding of customer/client needs as their number four strategy and engage personally with key customers/clients as their number five strategy. Too often CEOs are narrowly focused on running the business; they forget that it is their customers who could help them run it better, if only they would listen. Direct customer contact by the CEO can inspire the entire organization to higher performance. And in a digital world, customers are demanding that CEOs be available, if not in person, at least through social media.

While successful organizations develop a culture where everyone in the company shares customer relationship responsibility, it is surprising that provide incentives for front-line employees to improve customer engagement was so low on the strategy list (it was ninth among GCC CEOs). The importance of each individual personal touch point has become greater with the explosion of social media, where each customer becomes, in essence, a marketer (or critic) of your product or service.

The notion of developing “green” products as part of a market strategy to improve customer relationships received little traction either in the region or globally. Promote sustainable products/ services was ranked thirteenth out of fourteen strategies both globally and within the GCC.

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Corporate Brand and Reputation Becoming Values Based

CORPORATE BRAND AND REPUTATION

8

9

8

8

7

9

7

4

Global

Europe

United States

Asia

China

India

ASEAN

GCC

For CEOs in the GCC region, building and maintaining a respected and trusted corporate brand requires a mix of internally focused strategies and externally targeted communications centering on values and ethical behavior. They also believe, like their peers globally, that an organization needs to “walk the talk” when it comes to brand and reputation by producing quality goods and services. They, like CEOs globally, cited enhance quality of products and processes as a top five strategy to meet the Corporate Brand and Reputation challenge.

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For CEOs in the GCC region, emphasizing corporate values to all stakeholders from employees to customers is a critical part of meeting this challenge. Three of the top five strategies selected to meet the challenge were value and ethics based. Improve alignment of business practices/management behavior with corporate values was the top-ranked strategy, followed by communicate corporate values to customers and key stakeholders at number three and ensure ethical accountability throughout the organization at number five.

CEOs in the GCC region, like their peers in Asia and Europe, recognize the importance of reaching across diverse cultures to reinforce a strong brand image. They ranked enhance corporate brand awareness and understanding across different cultures as their second most critical strategy to meet the Corporate Brand and Reputation challenge. That strategy was number one in Asia and number three in Europe. It tied for seventh in the United States.

Also like their peers across the globe, CEOs of the GCC do not yet see a major role for social media in enhancing the corporate brand. They, like their peers in Asia, ranked integrate social media into product and service offerings dead last on the strategy list to meet the branding challenge. It did no better in Europe (eleven of fourteen) or the United States (thirteen of fourteen).

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Global Political/Economic Risk CEOs in the GCC Region Favor a Mix of Operational and Strategic Risk Mitigation Strategies

GLOBAL POLITICAL/ ECONOMIC RISK

5

T3

6

4

4

2

8

5

Global

Europe

United States

Asia

China

India

ASEAN

GCC

The strategies selected by GCC CEOs to cope with both global and domestic risk and volatility showed a mix of operational and strategic initiatives. CEOs seek to build crisis management teams, implement crisis and contingency plans, lower exposure to high-risk regions, and ensure supply chain diversity while ensuring they have adequate capital reserves on hand to weather crises. Obviously the risk exposure for many of the region’s global players will be different from the exposure of smaller firms dealing only within the GCC or in portions of the region.

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CEOs in the GCC region, where political volatility is present, are paying close attention to the operational side of risk mitigation within their own organizations. Establish crisis management teams and procedures was the top-ranked strategy, while reduce exposure to risky countries/regions was second.

Compared to their counterparts globally, CEOs in the GCC region appear to be more concerned about short-term operational risk than long-term strategic risk. Integrate longterm risk recognition into strategic planning was the number one strategy globally and in the United States and number three in Asia, but it was only ranked a relatively low thirteen out of eighteen strategies in the Gulf. The seeming lack of concern about long-term risk in favor of the here and now should be cause for concern. In many organizations, long-term strategic planning often gets ahead of risk assessment. Strategies are devised without a review of long-term risks that could make those strategies irrelevant. If an organization focuses solely on risks in operations or strategy without building the impact of large external risks into planning, opportunities will be missed or, worse, negative surprises can demolish the bottom line.2

CEOs in the GCC are less concerned about currency risk and gaining credit access compared to their peers globally. Manage currency risk, which was in the top five strategies for Europe (first), India (second), Asia (fourth), and the United States (fifth), ranked tenth in the GCC.

2

Charles Mitchell, Water Worries: How Incorporating Long-Term Risk into Strategic Planning Pays Off, The Conference Board, Council Perspectives 39, 2012.

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Scenario Planning as a Risk Management Tool Successful firms tend to have a good sense of their short-term and immediate environment, made up of their customers, suppliers, distributors, competitors, and key regulators. They also know how to adjust to changes in that environment by taking advantage of new opportunities or addressing threats that emerge. But while traditional forecasting tends in the short term (6–12 months) to assume that the immediate future is much like the recent past and therefore trends can be extrapolated, scenario planning starts with the fundamental assumption that the longer-term future is unchartered and far less predictable. Hence scenario planning captures uncertainties in ways that forecasting cannot. Over the medium term—four to five years out, depending on the industry—the prevailing conditions that shape the immediate environment are certain to change. A subtle and slow change in consumer preference may precipitate a demand shift. A more sudden change in regulation may be triggered after an election. These changes can reshape the playing field for a firm (e.g., new competitors invade and/ or change the rules of the game; a differentiated set of offerings becomes commoditized). But these changes are rarely announced in a neat package. They are often revealed through multiple and contradictory weak signals in the noise of the marketplace or warnings from unfamiliar sources. Successful firms, relentlessly focused on the immediate playing field and on executing well, may miss these signals, or they may not understand the implications until they put all of the seemingly unrelated information together; even worse, they may have all the information assembled but still fail to see either the challenges or the opportunities. A firm’s peripheral vision may ignore the changing conditions that shape the playing field, underscoring the importance of scenario planning. Scenarios for investment for an energy plant (or other energy-intensive businesses), for example, might focus on key elements of the US energy policy. Regulation for GHG emissions might take two forms: “cap and trade” or direct taxation of GHG emissions at the smokestack. Figure 1 offers an example of how scenario planning can be used to strategize about this volatile US sector. continued on next pgage

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Scenario Planning as a Risk Management Tool (continued) Figure 1: Developing scenarios in the US energy sector

Four scenarios for energy-intensive industries 1. CAP AND TRADE

SCENARIO A1: LIBERALIZED DOMESTIC ENERGY MARKET 

Natural gas prices rise under these conditions: a low natural gas price discourages drillers from natural gas exploration and encourages a switch to oil drilling. If many industries make an irreversible conversion to natural gas, demand increases and therefore prices increase.

Firms emitting GHGs that can’t adapt to cap and trade suffer higher costs, especially energy-intensive ones.

Lack of infrastructure for natural gas transport may create a bottleneck, impeding distribution beyond local markets. Firms emitting GHGs that can’t adapt to cap and trade suffer higher costs, particularly energy-intensive ones. SCENARIO A2: REGULATED DOMESTIC ENERGY MARKET

Natural gas (as LNG) is tradable globally with a global price set in relation to the global price for oil (with some regional variation). The U.S. price for natural gas increases to $5 to $6 per/Mmbtu (before liquefaction).

Without export of shale natural gas, domestic natural gas prices remain relatively low for the next five years. Natural gas prices rise under these conditions: a low natural gas price discourages drillers from natural gas exploration and encourages a switch to oil drilling. If many industries make an irreversible conversion to natural gas, demand increases and therefore prices increase.

SCENARIO B2: LIBERALIZED GLOBAL GAS MARKET 

Natural gas (as LNG) is tradable globally with a global price set in relation to the global price for oil (with some regional variation). The U.S. price for natural gas increases to $5 to $6 per/Mmbtu (before liquefaction).

B. EXPORT OF SHALE GAS

A. NO EXPORT OF DOMESTIC SHALE GAS

Without export of shale natural gas, domestic natural gas prices remain relatively low for the next five years.

SCENARIO B1: LIBERALIZED GLOBAL ENERGY MARKET

Power plants and other industries fired by coal — which emits the highest amount of GHGs — suffer higher costs through taxation. The price of electricity rises.

Lack of infrastructure may create a bottleneck, impeding distribution beyond local markets. Power plants and other industries fired by coal — which emits the highest amount of GHGs — suffer higher costs through taxation. The price of electricity rises.

2. REGULATORY LIMITS FOR GHG EMISSIONS Source: Stephanie Cady, The Shale Gas Boom and Other Uncertainties in US Energy Markets, The Conference Board, Knowledge Series Report KS-007-13, December 2013.

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CONCLUSION: MANAGING THE REALITY OF SLOW ECONOMIC GROWTH Five years after the eruption of the global financial and economic crisis in 2008, the global business environment remains weak, with an ongoing crisis in Europe and Japan, a relatively anemic recovery in America, and significantly slowing growth rates that leave little potential for emerging markets to be the post-recession global growth heroes again after the eye-popping expansion and rapid growth of recent years. Continued downside risks, including political uncertainty and the agonizingly slow pace of structural reform, also plague the economic and business outlooks in the GCC region, where CEOs are focused on external risk. Businesses have armed themselves to mitigate and manage risks in the short and the medium term by streamlining their organizations, building their human capital potential, and trying to create value by improving and diversifying existing products and services and paying more attention to their increasingly sophisticated and restless customer base. While the downside risks for business seem dominant as 2014 dawns, during times of negativism and somber outlooks, positive trends and events may be brewing beneath the surface. Positive change requires a policy commitment to restore and strengthen the working of critical markets in finance, labor, and major product areas in both mature and emerging economies. The creeping protectionism and potential fragmentation of global trade exhibited through a plethora of bilateral and multilateral regional agreements may be misguided and unlikely to create the confidence needed to bring about a truly global economy where sustainable growth and rising middle classes are possible. Countries are now so deeply enmeshed in the current version of the “global economy� that they run the risk of sabotaging both global and their own growth by trying to protect their workers and industries from competition. But in a down economy, political sentiment often leans toward protectionism, even at a time when global coordination is needed the most. The potential mix of bad policy and high risk may create the biggest obstacle to reaping the fruits of strong business performance.

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ABOUT THIS REPORT Survey Methodology

Definition of Challenges

This report is based on responses from CEOs, presidents, and chairmen to The Conference Board CEO Challenge® survey, distributed between September and November 2012. Respondents were asked to rank order their top five challenges, a change from the 2012 survey when they were asked to give only their top three.

Corporate brand and reputation How your organization and its product and services are viewed by stakeholders.

To reach the aggregate ranking of challenges and to develop an importance-adjusted score, two additional computations were conducted. First, to reflect the ranking of the challenges by the respondents, each challenge was assigned a weight: if a particular challenge was ranked one, it was given a weight of five, a number two rank was given a weight of four, and a ranking of number three was given a weight of three, and so forth through the top five. (Challenges that were not ranked by respondents among the top five received zero weight.)

Global political/economic risk Dealing with social, political, economic, and physical and cyber-security factors in the global business environment.

Second, each weighted score was then assigned an additional weight based on the share of respondents’ country GDP as a proportion of all countries represented in the survey sample relative to the share of that country’s respondents in the total of 729 responses. Similar weights were assigned to regions, industry sectors, and revenue groups. For greater insight into how CEOs plan to meet their challenges, respondents were also asked to rank order five critical “strategies” (or strategic priorities) for meeting each of their top five challenges, which were weighted in the same way as the challenges. We acknowledge that a survey of 729 respondents creates limitations regarding the statistical significance of the rankings. Therefore, the results presented are mostly for groupings of at least 50 respondents. In particular, for the smaller samples, such as India, the rankings provide a qualitative and directional indication of the importance of challenges. In cases of larger numbers of respondents and greater variation among the final scores, the differences in rankings had greater statistical significance. Two additional adjustments were made in the list of challenges presented to respondents in the 2013 survey. Operational Excellence replaced the more narrowly defined Cost Optimization as a challenge, as did Trust in Business for Investor Relations. Changes were also made in several of the strategy lists to better reflect the reality of the business environment.

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research Report CEO Challenges in the Gulf Region

Innovation Creating value through new products, new processes, business models, and organizational structures to meet and anticipate customer demands and remain competitive in a global marketplace.

Global expansion Seeking growth in multiple markets outside your home country. Operational excellence The measure of effectiveness, efficiency, and alignment of an organization’s processes, strategies, tactics, culture, and methodologies in such functions as finance, talent, governance, and operations that must be optimized to achieve business objectives and goals. Trust in business The faith and expectation that corporations and business leaders will do the right thing, will operate in an ethical manner, and meet the social, moral, and environmental expectations of stakeholders by doing business according to societal norms, values, rules, and laws. Customer relationships How your company interacts with customers; winning and retaining customers. Sustainability Corporate commitment to accountability for the triple bottom line of financial, social, and environmental obligations and opportunities. These include elements of corporate citizenship, environmental sustainability, and green business. Government regulation The impact on the business environment of government rules, regulations, and reporting requirements. Human capital Addresses the full spectrum of the employee/employer experience, which includes understanding global labor markets and workforce readiness; determining the skills and competencies companies need to compete and win; creating a compelling employment brand; managing compensation, benefits, and wellness programs; attracting, developing, rewarding, engaging, and retaining diverse talent; managing performance; growing leaders at all levels; managing succession; and articulating the impact of these efforts in business terms.

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SURVEY DEMOGRAPHICS Industry Manufacturing

Count

Percentage

24

48.0%

Finance

3

6.0%

Services

21

42.0%

Other

2

4.0%

TOTAL

50

100.0%

Revenues

Count

Less than $100 million

Percentage

31

62.0%

9

18.0%

$1 billion to under $5 billion

6

12.0%

$5 billion and above

4

8.0%

50

100.0%

$100 million to under $1 billion

TOTAL

Our Partners About the Gulf Investment Corporation (GIC) Gulf Investment Corporation (GIC) is a leading financial institution focused on developing private enterprise and fostering economic growth in the Gulf Cooperation Council (GCC) region. It was formed to foster economic growth, economic diversification, and capital markets development across the GCC region. Established in 1983 and owned equally by the six GCC governments, Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates, GIC successfully invests in projects across a range of industry sectors including financial services, telecommunications, petrochemicals, metals, and electricity. Exposure to direct investments throughout the GCC region is balanced with investments in local and global capital markets in different asset classes and investment themes. GIC’s clients include governments, quasi-government institutions, the corporate sector, and other major investors who are active in the GCC region.

About The Federation of GCC Chambers of Commerce and Industry (FGCC Chambers) The Federation of GCC Chambers of Commerce and Industry (FGCC Chambers) is a nonprofit organization that was established in 1979 with the primary objective of supporting the six GCC national chamber members. As evidence of the support FGCC Chambers provided, there are currently about 35 local chambers whose membership exceeds 760,000 businesspersons. In addition to promoting the role of the private sector in the GCC economies, the FGCC Chambers work diligently with the Gulf Cooperation Council (GCC) and government bodies in the region in order to achieve regional integration and to promote the economic unification visions of the six Arab Gulf States.

GIC enjoys a solid capital base that is enhanced by healthy capital adequacy ratios. Investment in staff, knowledge systems, and IT remains a priority, and this development of expertise and systems gives the organization a competitive edge in the market.

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ABOUT THE AUTHORS Charles Mitchell, the executive director, knowledge content & quality at The Conference Board, is responsible for the development of member-generated content and ensuring the objectivity, independence, accuracy, and business relevance of the organization’s research. He also serves as publisher of The Conference Board Review®. Since joining The Conference Board in 1997 as the head of publishing, he has authored dozens of reports on business and economic issues. Prior to joining The Conference Board, Mitchell spent 14 years as a reporter and writer for United Press International, based in Johannesburg, Nairobi, Moscow, and Washington. He was foreign editor of the Detroit Free Press from 1990 to 1996 and European editor for World Business magazine. Mitchell is also the author of several books dealing with international business cultures, customs, and etiquette published by World Trade Press.

Dalal Al-Jaser is an economic analyst at the Gulf Investment Corporation, based in Kuwait. She received her BA in economics from The University of Wisconsin at Madison, graduating from the class of 2010. After graduation she joined the Economics and Strategy Division at GIC under the supervision of Dr. Sulayman Al-Qudsi and was soon after promoted to the economic analyst position. During her tenure at GIC, she was entrusted to lead several projects, including the annual “GCC Economic Statistics,” which is circulated to some 500 institutions and libraries in the GCC and the MENA region. In addition to serving as a lead of the GIC-based project on the GCC CEO Survey 2013, Dalal has published extensively in various issues of GICWED and contributed to book articles.

Bart van Ark, PhD, is executive vice president, chief economist & chief strategy officer of The Conference Board. He leads a team of almost two dozen economists who produce a range of widely watched economic indicators and growth forecasts, as well as in depth global economic research. A Dutch national, he is the first non-US chief economist in the 95-year history of The Conference Board. Van Ark is an expert in international comparative studies of economic performance, productivity, and innovation and has been extensively published in national and international journals, including the Journal of Economic Perspectives, Economic Policy, Review of Income and Wealth, and The Brookings Papers on Economic Activity. He is a member of the editorial boards of several academic journals and serves on various advisory committees in the areas of productivity and national accounts. Van Ark obtained his master’s and PhD degrees in economics from the University of Groningen in The Netherlands

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Related Resources from The Conference Board Reports and Publications The Conference Board Review is the quarterly magazine of The Conference Board. Founded in 1976, it is a magazine of ideas and opinion for the world’s business leaders that raises tough questions about leading-edge issues at the intersection of business and society. www.tcbreview.com

THE CONFERENCE BOARD REVIEW

IDEAS AND OPINIONS FOR THE WORLD'S BUSINESS LEADERS

After the Storm

Boards and CEOs will face a changed landscape. WHO SAYS YOU’RE A GOOD GLOBAL CITIZEN? WHEN THEY HEAR YOU BUT DON’T LISTEN HOW MANY SENIOR EXECUTIVE VPS ARE TOO MANY?

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China Center for Economics and Business

Chart of the Week

Assessing local debt risks and opportunities – regional debt and real estate dynamics April 24, 2014

350

Debt-to-GDP, percent Red = 2013 debt-to-GDP/ increase from 2008

300 250

Green = 2008 debt-to-GDP/ increase from 2004

80

Beijing

BJ

Qinghai

HN

Shanxi

SX GS HN XJ

Guizhou

SX

TJ

Ningxia

40

Xinjiang

TJ CQ QH GZ

CQ

SH

50

Tibet

Gansu

150

50

GS XJ

60

Chongqing

SH

BJ

70

Tianjin

200

QH

90

Shanghai

100

Increase in debt-to-GDP (between 2008 and 2013), percentage points

100

GZ

Yunan 30

Hainan

20 10

TB

0

0 -50

-25

0

25

50

75

100

125

150

Debt-to-GDP increase, percentage points Sources: NBS, PBoC, CEIC, The Conference Board

0

100

200

300 400 500 600 Percent increase in annual real estate investment (2013 compared to 2008) Sources: NBS, PBoC, CEIC, The Conference Board

 The above charts depict China’s debt buildup over the past several years broken down by province and highlight some of the regions that look to be most troubled from a financing standpoint. In the chart on the left, the red diamonds compare all provincial “private sector” debtto-GDP ratios in 2013 (y-axis) to the rate, in percentage points, at which that ratio increased since 2008 (x-axis). The green diamonds depict the level of debt-to-GDP ratios in selected provinces in 2008 (y-axis) and the speed of that buildup since 2004 (x-axis).  We measure private sector debt-to-GDP simply as the amount of outstanding bank loans in each period, compared to the provinces’ reported GDP. However, in 2013 we add other forms of social financing excluding new equity issuance. The latter forms of financing are only recorded by province for the year 2013, but increases in debt-to-GDP since 2008 should not be skewed due to their inclusion. These forms of debt only really began to expand rapidly since 2010, and from low outstanding levels at that time. Finally, using bank and non-bank credit will inevitably include some loans to local government investment vehicles, which should not strictly be counted as private sector credit. However, despite the mischaracterization of the debt liability in some cases, observing these levels helps one to understand the nature of the credit buildup throughout China: it has not been uniform and – unsurprisingly – the fastest debt buildups are most often linked to provinces with a strong reliance on either heavy industry or a major boom in real estate investment, or both.  The most recent local government debt audit performed by the National Audit Office helped illuminate recent growth in official local government debt levels – i.e. public sector debt. It showed that local governments are on the hook for 17.9 trillion RMB as of mid-2013, compared to 10.7 trillion RMB as of end-2010, when the previous audit was conducted. Importantly, the audit did not cover private sector debt levels at the provincial level, which are much higher than official local government debt levels, and the subject of this Chart-of-theWeek analysis.  The results of our provincial private sector debt breakdown indicate where debt in China is growing most quickly. We identify eight provinces1 or provincial level cities that have seen their private sector debt-to-GDP ratios increase by 50 percentage points or more over the past five years, for an average increase of over 10 percentage points per year – a rate of buildup that, we argue, is not sustainable and will likely lead to difficult financial strains beginning this year. We also identify two other provinces (Tianjin, a provincial level city, and Guizhou) which have seen their private sector debt ratios increase by 47.5 and 47.9 percentage points, respectively, over the past five years. What makes the growth of debt in these provinces even more striking is that each of them reduced their overall private sector debt ratio between 2004 and 2008 by between 1 and 33 percentage points. At that time deleveraging was achieved both by high economic growth in the wake 1 We exclude Tibet because of the idiosyncratic nature of developmental policy in the region

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China Center for Economics and Business

Chart of the Week of WTO entry and by a sharp reduction in outstanding loans due to the carve-out of NPLs from the banking sector in the early 2000s. The more-than-full reversal of that deleveraging suggests another widespread bailout may eventually be the only course of action, as a surge in economic growth looks unlikely.  This “troubled” group of ten provinces includes China’s four provincial level cities Chongqing, Beijing, Shanghai and Tianjin. It is no surprise that private sector debt would be rising most quickly in such areas due to their large populations, fast pace of urbanization and high concentration of businesses. But still the overall levels of private sector debt – especially in Beijing and Shanghai – are somewhat alarming. Indeed, Beijing’s 2013 private sector debt-to-GDP ratio stood at 285 percent while Shanghai’s stood at 226 percent, making them by far China’s most indebted provincial areas. This observation is at odds with the oft-cited notion that Beijing and Shanghai are better-placed to help roll out experiments for municipal bond markets because their public balance sheets are relatively well-kept. Indeed, these two cities seem to epitomize China’s overall predilection to present an officially clean public balance sheet while using the banking system as a quasifiscal tool. It also suggests that were a deeper economic slump to hit China, these cities would likely come under funding pressure as they helped to work out the corporate debt load – despite seeming to have plenty of fiscal headroom, at least on paper. Overall, though, these large provincial-level cities are not the most concerning regions when it comes to the debt outlook.  The six more worrying provinces in our analysis include: Qinghai, Gansu, Shanxi, Guizhou, Xinjiang and Hainan. Qinghai has seen its private sector debt ratio increase faster than any other province (except Tibet) – by 90 percentage points in the past five years to 191 percent of provincial GDP. In other words, it almost doubled its debt ratio in five years. Qinghai’s heavy reliance on the steel and iron industries, combined with heavy infrastructure investment in recent years, help to explain such a fast-growing private debt burden. Adding almost an entire GDP-worth of debt, shows how highly credit-intense this type of growth is, and suggests that much of this debt will never be repaid – and certainly not within the original maturity date of the loans. As such, a large share of this burden is likely to fall to the government to resolve at some point. Shanxi similarly relies on heavy industry, and indeed, it was a Shanxi coal mining company that was complicit in the high profile near-default of a trust loan owed to China Credit Trust in February 2014.  But while much of the private sector debt burden in both Qinghai and Shanxi is tied to spending in heavy industries, both provinces clearly have yet another debt driver – real estate investment. The chart on the right compares the rate of private debt buildup (in percentage points relative to GDP) from 2008-2013 (y-axis) to the increase in real estate investment in each province over the same period. The numbers are staggering, if ultimately not surprising. Qinghai’s real estate investment increased by 391 percent in 2013 from its level in 2008 – which was the third highest growth in real estate investment over that period. Guizhou and Hainan each had real estate investment growth of over 530 percent. In fact, each of our high-debt-growth provinces saw real estate investment growth of over 300 percent in the five year period (except for Xinjiang which saw 271 percent growth). In addition, two other provinces (Ningxia and Yunnan) saw real estate investment growth well in excess of 300 percent, although their private sector debt burdens (as we measure them) increased somewhat more slowly at about 40 percentage points over the five year period – still a significant increase.  The correlation between these two components helps to undercut the notion that China’s real estate sector is somehow more resilient than in many other countries because of a lack of household leverage, as homes are purchased with a high proportion of cash. In most provinces, higher rates of real estate investment are clearly associated not only with a high overall level of private sector leverage, but more importantly with a fast pace of leverage growth. The relationship is even clearer when outliers such as Guizhou, Beijing and Shanghai are stripped out (the first is an outlier because the debt burden is also driven by steel and iron ore, while the latter two are outliers because real estate investment levels were already high in 2008, thus keeping real estate investment growth rates from surging so rapidly). We argue that home purchases are more leveraged than conventional wisdom suggests as individuals often borrow from family and friends to make purchases or down payments. But even conceding the point on the purchasing side, our charts suggest that a positive relationship between the pace of real estate investment and private sector leverage growth does, most definitely, exist in China. This debt accumulation is more likely to end up on corporate balance sheets, rather than individual accounts. But debt is debt no matter who owes it. And in fact, it is increasingly likely that much of this private debt will be more explicitly assumed by government entities as China’s economy continues to slow and bailouts are necessary. The provincial suspects for increased credit turmoil are thus obvious and highlighted in red in our charts, namely: Qinghai, Guizhou, Gansu, Hainan, Shanxi, Xinjiang, Yunan and Ningxia. Financial strains are likely to be concentrated further within particular cities in these provinces, but we have yet to dig to that level in the data.  So what are the implications of these breakdowns of provincial debt ratios? The first is that we are only beginning to see dominoes fall when it comes to companies defaulting on various financial products. Heavy industrials and real estate developers are likely to remain in the headlines, as trust loans and junk bonds, in particular, come under pressure. But more importantly, we have argued for some time that increased regionalization will be a key characteristic of China’s economic transition on several fronts. Firstly, financial disruptions are likely to be localized. While inter-provincial financing is increasingly common, especially among China’s largest state-owned financiers, many of China’s provinces largely exist in financial ecosystems that revolve around specific industries, government priorities, relationships and patronage systems. Local governments or SOEs, for example, often own trust companies that provide financing along a value chain – whether it be coal, steel or infrastructure development. These relationships are one reason that full-blown defaults rarely occur. There is no incentive for a local government to allow a local company, which provides jobs and tax revenue, to default to the local trust company or © 2014 by The Conference Board, Inc. All rights reserved. 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China Center for Economics and Business

Chart of the Week bank which the government owns. Everyone has a stake in keeping the wheels turning and the edifice standing. This dynamic is one reason why bailouts systematically occur, and why looking at private sector leverage is a better metric for understanding provincial debt dynamics than a simple of assessment of the local government balance sheet – a large chunk of corporate debt is likely to end up absorbed into the public balance sheet in some way.  Furthermore, these regional dynamics suggest how a financial crisis may come to fruition in China. A full-blown, country-wide financial crisis remains unlikely in our view; but one can more easily envision a proliferation of regional crises. Indeed, the 2010 meltdown in the city of Wenzhou is a case in point. It came along with the bursting of the city’s property bubble and severe economic adjustment but seemed relatively insignificant for the rest of the country. Indeed, the city of Shenmu, in Shanxi (one of our highlighted provinces), has become the latest addition to the roster of localities seeing significant price cuts on real estate developments. As these price adjustments build momentum, and local governments increasingly have to step in to bailout developers and other struggling industries (many of which are directly or indirectly tied to the real estate boom), the local authorities will begin to reach the limits of their resources.  So far the companies that have come closest to default – or actually defaulted as in the case of the Chaori bond incident in March – are exclusively small, private companies in highly troubled sectors, with coal, solar and real estate exposures among the most recently reported credit events. But even in these cases where the bailout incentives are relatively weak, local government entities have worked with other interested parties to return principal, at the very least, to creditors and their investors. So these events have so far done little or nothing to change the overall perception of credit risk in China. However, as redemption pressures grow through the next fifteen months, the size of potential corporate defaults could easily rise to the level at which local governments (particularly those highlighted in the charts above) are simply unable to backstop even the most essential companies. As these defaults unwind, a regional chain-reaction could tip the scales toward financial seizures in various localities.  However, it won’t be until these regional seizures unfold that central government policy toward removing moral hazard from credit markets will be tested. Because of the regional credit dynamics outlined above, local governments will always step in to bail out companies, especially those of significant size. After all, why let a company fail when you own the creditor and have a stake in the debtor’s continued viability? No central government directive to allow markets to play a decisive role in economic activity will change that, until local resources are tapped out. At that point, Beijing may finally be able to introduce some more proper risk pricing into credit markets, but it will only be able to do so by allowing some pain – i.e. corporate failures – in over-indebted provinces. As such, we do expect some defaults to eventually be “allowed” to proceed over the next fifteen months, most likely in real estate or heavy industry trust loans. But, in all likelihood, there will be increasing reports of near-misses before the pot boils over. And even then, financial strains are likely to remain largely local, or at most regional, phenomena.  The regional stress that is likely to occur as China’s economy continues slowing and financial assets continue to deteriorate will bring both opportunities and challenges for MNCs. Increased regionalization may ultimately mean that where the financial pain is greatest more openness toward foreign capital and needed skills will emerge. Indeed, a number of MNCs, particularly those in upstream sectors, are reporting a rise in asset sales by their domestic competitors. At this stage the asset disposal is reported to be mostly among private companies, but the stress and the selling/partnering impetus will likely broaden at some point. Overall, then, understanding where the greatest risks currently lie – and therefore where the future opportunities will emerge – should be key in navigating the downturn. From a regional perspective, the highly indebted provinces indicated above warrant close monitoring by business planners.

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Q1: Real estate drags on headline growth Data Flash is a brief interpretive ( - ) China’s first quarter GDP growth came in slightly above expectations, at 7.4 percent y-o-y. Overall, economic momentum remained subdued in the first three months of 2014, especially on a sequential summary of China’s official basis, although March did see a slight improvement – as is usual once everyone gets back to work after monthly economic data release

the Chinese New Year Holiday. Going forward, the economy looks set to continue slowing into Q2.

April 2014

Note: (+) Indicates a positive development for MNC businesses in China, (-) a negative development, and (?) is neutral or ambiguous.

Given the across-the-board weakness in the dataflow throughout the first three months of 2014, there is considerable debate about the integrity of the 7.4 percent print, as it appears to entail a bit of data smoothing to effect upward bias. It stands to reason that this is intentional to allow the headline GDP number to slow further in Q2 without dipping below 7 percent officially. However, for the ongoing “soft fall” to moderate or reverse in Q3, more policy support would be required. As such, slightly stepped up credit creation is likely to begin in late-May or June after market interest rates ease somewhat. It is pretty clear that weak real estate investment is the main culprit currently dragging on headline growth. But it is important to note that from a macroeconomic perspective, the easing of investment in the real estate sector is one of the more positive developments we have seen in recent months. Property expenditure needs to slow, but keeping the retrenchment gradual will be a challenge – especially as the amount of maturing real estate loans will rise in the coming months. ( ? ) Real estate investment fell to 14.2 percent y-o-y growth in March, down from 19.3 percent in the first two months of the year – and the lowest monthly expansion since July 2012. With growth in land sales turning negative in March as well, expansion in the sector looks set to stay weak throughout Q2. Still, it is important to maintain perspective when viewing the real estate market. High inventories, falling prices, weak investment and high leverage among real estate developers will continue to put downward pressure on financial products tied to the sector. Indeed, earlier this week, yet another developer in Nanjing looks to have missed a loan payment of 90 million RMB. However, for China to have any chance of boosting its sliding productivity growth rate, investment will simply have to be shifted out of real estate and into more productive sectors – gradually somehow. Still, real estate does remain a significant risk for the economy in 2014, especially as close to 500 billion RMB of real estate trust loans will come due this year. We don’t see the real estate slowdown process as a prescribed government policy – the air is simply coming out of the market. Thus, the challenge for China’s cities will be in attempting to prevent downward pressures from unfolding so quickly as to trigger a selloff. ( ? ) The real estate sector is intimately tied to China’s financial and liquidity environment, and the slowdown in construction may help to explain why loan and overall monetary growth were so low in March. Outstanding bank loans grew at 13.9 percent y-o-y in March, the lowest print since January 2006, while M2 grew at 12.1 percent y-o-y – an all-time low. New Total Social Financing issuance came in at 2.07 trillion RMB, split almost evenly between bank loans and other forms of credit, and representing a 16.3 percent y-o-y growth rate in outstanding claims – an eight year low. Despite the relatively rapid easing of credit growth in the month, the overall liquidity environment in the banking system remained loose, indicating that banks were


not in particular need of RMB cash to finance lending. The 7-day repo rate averaged 3.2 percent throughout March, down from 4.52 percent in the first two months of the year and 4.32 percent in H2 2013. The loose liquidity environment, despite weak capital inflows and remarkably slow monetary growth, points to softness in loan demand rather than funding restrictions at banks. It may be possible, then, that while the overall corporate leverage ratio is still rising (i.e. credit growth continues to outpace nominal GDP) that some sectors are pulling back on borrowing. Whether this is a deliberate move to moderate leverage or a more basic reaction to slowing demand is difficult to determine at this juncture. But we think it’s probably more the latter. Trust lending to real estate fell by 49 percent q-o-q in the first quarter of 2014, although interest rates on such products barely budged. And while corporate bond rates for developers have risen due to increasing reports of souring loans in the sector, floats in the relatively cheaper offshore USD bond market have slowed markedly in late-March and early-April from the beginning of the year. This situation is why we do not yet expect a clear-cut shift toward monetary loosening to occur in Q2. First, the PBoC continues to withdraw money from the banking system (it has injected money in only two weeks since February), and yet the 7-day repo rate has remained comfortably below 4 percent – averaging 3.66 percent so far in April. If weak loan demand is driving the slowdown in lending, and thus causing the relatively loose liquidity environment, then broad cuts to the reserve ratio (as some observers increasingly expect) will do little to spur credit or investment growth. Rather, there is likely to be a gradual reduction in market interest rates in the coming weeks due to the weakness in credit demand, which may allow credit growth to once again start expanding gradually in June as borrowers come back into the market. However, if economic growth begins to slow more markedly in the May-June period due to even more rapidly deteriorating investment growth, then the PBoC will need to cut benchmark interest rates (and potentially loosen restrictions on loans to developers) in order bring distressed borrowers back to the table. Thus, we continue to maintain that monetary policy is the space to watch in order to determine the overall policy support stance – targeted spending by the State Council will remain limited. ( - ) We continue to expect that the recently announced fiscal measures from the State Council will do little to buoy y-o-y economic growth, even as sequential activity did pick up for the industrial side of the economy in March. Value added of industrial production grew 8.8 percent y-o-y in March, up from 8.6 percent during the first two months of the year. More importantly, m-o-m (seasonally adjusted) growth for the sector picked up to 0.81 percent, from 0.61 percent and 0.59 percent in February and January, respectively. Much of the bounce back is likely tied to resumption of activity in the wake of the February holiday, but continued high growth in overall infrastructure spending may have helped as well (more below). April may see continued strength on the industrial front, but sequential activity is likely to weaken again in May and June. Furthermore, upstream price deflation worsened once again in March, falling -2.3 percent down from -2 percent in February. Sequential prices fell by the most since June 2013, contracting -0.32 percent m-o-m. In such an environment, we do not foresee any organic uptick for the industrial sector – inventories remain just shy of all-time highs and capacity utilization is running at about 70-75 percent. Slightly expansionary fiscal measures should keep the slowdown from becoming too sharp, but will by no means spur a rebound. ( ? ) Overall investment remained weak in March due to the above-mentioned tepid pace of real estate construction, with headline FAI expanding at 17.3 percent y-o-y, down from 17.9 percent in the first two months of 2014. Sequential growth eased to 1.24 percent m-o-m (sa) from 1.36 percent back in January. However, growth in infrastructure investment remained steady at 22.5 percent y-o-y, the same rate as the first two months of the year. This type of activity is unlikely to lead to sustained improvement in the industrial sector, and the impact from high Q1 infrastructure growth will likely fizzle in May – akin to the short-lived impact that renewed growth in public investment induced in Q3 2013. ( - ) Meanwhile, manufacturing investment improved ever-so-slightly in March to 15.2 percent y-o-y growth from 15.1 percent in the January-February period. Still, this proxy for overall private sector capital spending stands well below the annual historical average of 24.4 percent over the past 10 years. Small companies continue to face prohibitively high borrowing rates and will continue to struggle, as weak upcoming manufacturing PMIs are likely to confirm. Furthermore, as we highlighted in a recent

China Center for Economics and Business: Data Flash


weekly note, the underlying export growth trend seems to be rattling around at about 3.8 percent y-o-y – stronger than the headline numbers suggest, but still too weak to make much of a difference for manufacturers. ( ? ) Retail sales bounced back to 12.2 percent y-o-y growth in March up from 11.8 percent in the first two months of the year. Meanwhile, consumer price growth stood at 2.4 percent y-o-y in the month, up from 2 percent in February. Although the breakdowns for GDP growth have yet to be released, it is likely that consumption drove the bulk of GDP growth in Q1, as often happens at the first of the year. Seemingly resilient consumption rates and an expanding service sector did offer a bright spot for the growth picture in the first three months of 2014. However, despite the inevitable banner-waving in the name of reform and rebalancing that will undoubtedly occur once those breakdowns are released, investment will continue to make up the bulk of growth in China this year. Furthermore, despite the uptick in retail sales this month, the overall growth slowdown is clearly having an increasing impact on consumers. As the transition unfolds, we suggest caution for those banking on the “China consumption miracle.”

Implications for Business Economic growth did stabilize a bit in March, but the improvement is not likely to be long-lasting. From a macroeconomic standpoint, the easing of investment rates is positive as far as it represents a step toward accommodating the structural transition that the Chinese economy needs to undergo. However, as we have argued for some time, business conditions are likely to continue deteriorating in the short term as the quality of credit assets worsens. Moreover, if recent cuts in real estate prices become more widespread and substantial, financing conditions could become heavily constricted as a knock-on effect. MNCs should carefully assess the health of counterpart companies along their supply chains, now even more so than ever, as growing receivables may turn into growing non-payments. While it is reassuring that the leadership has refrained from significant stimulus, the apparent weakening in loan demand will serve to further depress growth into Q2 and likely Q3 (absent stepped-up policy support). Financial strains are unlikely to manifest nationwide, but more heavily indebted cities and provinces (as we will discuss in an upcoming note) are likely to experience a more volatile adjustment period – so the identification of higher-risk localities will become increasingly important.

China Center for Economics and Business: Data Flash


Key Economic Indicators 2014 Quarter 1 Monthly Indicators May-13

Jun-13

Jul-13

Aug-13

Sep-13

Oct-13

Nov-13

Dec-13

Jan-14

Feb-14

Mar-14

14.5%

14.2%

14.3%

14.1%

14.3%

14.2%

14.2%

14.1%

14.3%

14.2%

13.9%

Key Monthly Indicators Total loans (YoY % chg) Shanghai stock exchange (average monthly index value)

2,301

1,979

1,994

2,098

2,175

2,142

2,221

2,116

2,033

2,056

2,033

Exports (YoY % chg)

0.9%

-3.3%

5.1%

7.1%

-0.4%

5.6%

12.7%

4.3%

10.5%

-18.1%

-6.6%

Imports (YoY % chg)

-0.1%

-0.9%

10.8%

7.1%

7.4%

7.5%

5.4%

8.6%

10.8%

10.4%

-11.3%

Value added of industrial production (YoY % chg)

9.2%

8.9%

9.7%

10.4%

10.2%

10.3%

10.0%

9.7%

8.6%

8.6%

8.8%

Electricity production (YoY % chg)

4.1%

6.0%

8.1%

13.4%

8.2%

8.4%

6.8%

8.3%

5.5%

5.5%

6.2%

CFLP Manufacturing PMI (diffusion index)

50.8

50.1

50.3

51.0

51.1

51.4

51.4

51.0

50.5

50.2

50.3

Consumer confidence

99.0

97.0

97.2

97.8

99.8

102.9

98.9

102.3

101.1

103.1

n.a.

12.9%

13.3%

13.2%

13.4%

13.3%

13.3%

13.7%

13.6%

11.8%

11.8%

12.2%

Retail sales of consumer goods (YoY % chg) Auto sales (units, S.A.) Fixed assets investment (YoY % chg)

1,792,224 1,820,352 1,820,756 1,838,979 1,903,784 1,937,506 1,908,439 1,945,366 1,903,657 1,919,982 1,877,426 20.4%

20.1%

20.1%

20.3%

20.2%

20.1%

19.9%

19.6%

17.9%

17.9%

17.6%

CPI (YoY % chg)

2.1%

2.7%

2.7%

2.6%

3.1%

3.2%

3.0%

2.5%

2.5%

2.0%

2.4%

PPI (YoY % chg)

-2.9%

-2.7%

-2.3%

-1.6%

-1.3%

-1.5%

-1.4%

-1.4%

-1.6%

-2.0%

-2.3%

Purchasing price index of raw materials, fuel, and power (YoY % chg)

-5.6%

-4.9%

-3.4%

-2.6%

-3.0%

-2.9%

-2.6%

-2.2%

-2.0%

-2.4%

-3.1%

The Conference Board Leading Economic Index速 (LEI) for China Index value (2004 = 100)

261.5

263.7

267.0

269.4

272.2

274.0

278.0

279.0

279.9

282.4

n.a.

Month over month % change

0.3%

0.8%

1.3%

0.9%

1.0%

0.7%

1.5%

0.4%

0.3%

0.9%

n.a.

Trailing 6 month annualized growth rate %

8.8%

10.4%

9.5%

8.7%

12.3%

10.5%

13.0%

11.9%

9.9%

9.9%

n.a.

102.7

100.5

101.0

101.6

103.5

107.5

102.7

106.8

105.0

107.0

n.a.

55,481.7

56,166.6

56,855.6

57,381.4

58,034.7

58,624.5

59,344.1

60,025.9

60,824.0

61,816.1

n.a.

5000 industrial enterprises diffusion index: raw materials supply (S.A., Q)

66.9

66.9

66.9

67.0

67.0

67.0

67.1

67.1

67.1

67.1

n.a.

PMI: manufacturing supplier delivery (S.A.)

49.1

49.4

49.6

49.7

49.4

49.5

49.5

49.5

50.0

49.6

n.a.

PMI: manufacturing new export orders (S.A.)

48.8

48.8

50.2

51.4

50.1

50.4

50.4

49.6

50.3

48.6

n.a.

170,898.1 182,127.7 206,883.4 191,887.0 214,169.6 156,421.9 280,163.5 181,342.5 131,528.7 134,954.4

n.a.

China LEI Components Consumer expectation index Total loans issued by financial institutions (Billions of 2004 Yuan, deflated by PPI, S.A.)

Floor space started: total (Thousands of Sq M, S.A.)

The Conference Board Coincident Economic Index速 (CEI) for China Index value (2004 = 100)

240.2

Month over month % change

0.7%

Trailing 6 month annualized growth rate %

9.4%

Value added of industrial production (Billions of 2004 Yuan, deflated by PPI, S.A.)

1,346.1

Retail sales of consumer goods (Billions of 2004 Yuan, deflated by RPI, S.A.) Volume of passenger traffic (Bn of Person-Kilo's, S.A.) Electricity production (Billions of kWh, S.A.)

242.7

245.4

248.3

248.6

250.3

1.0%

1.1%

1.2%

0.1%

0.7%

10.6%

17.9%

9.9%

9.4%

10.0%

1,355.5

1,368.5

1,381.3

1,392.4

1,405.2

1,556.5

1,573.9

1,586.9

1,602.8

1,620.9

293.9

303.6

301.8

304.1

417.6

421.5

434.2

446.1

83.3

83.7

84.1

84.4

252.5

256.2

253.2

252.8

n.a.

0.9%

1.5%

-1.2%

-0.2%

n.a.

10.5%

11.4%

6.5%

3.7%

n.a.

1,415.4

1,423.0

1,431.2

1,426.3

n.a.

1,637.0

1,653.4

1,673.0

1,615.9

1,645.1

n.a.

305.5

298.3

307.1

329.2

312.8

294.5

n.a.

437.1

445.6

448.2

452.7

449.3

451.2

n.a.

84.8

85.2

85.6

86.0

86.4

86.8

n.a.

China CEI Components

Manufacturing employment (Person Mn, S.A., Q)

Sources : The Conference Board, China National Bureau of Statistics, CEIC. Data is the most current available as of April 17, 2014.

China Center for Economics and Business: Data Flash


About The Conference Board The Conference Board is a global, independent business membership and research association working in the public interest. Our mission is unique: to provide the world’s leading organizations with the practical knowledge they need to improve their performance and better serve society. The Conference Board is a nonadvocacy, not-for-profit entity, holding 501(c) (3) tax-exempt status in the United States.

THE CONFERENCE BOARD, INC. www.conferenceboard.org

AMERICAS + 1 212 759 0900 customer.service@conferenceboard.org

About The China Center The Conference Board China Center for Economics and Business provides relevant, practical and readily useful business and economic insights and information to senior executives of member companies who all have a significant strategic interest in China. Our insights are informed by local economic and business research, formulated by our thought leaders in China and around the world, and delivered through our exclusive Conference Board events, publications, indicators, and peer-group CEO Council sessions in China. The Conference Board China Center public purpose work is made possible by virtue of funding support and thoughtful guidance from the following corporate members.

ASIA-PACIFIC + 65 6325 3121 service.ap@conferenceboard.org EUROPE/AFRICA/MIDDLE EAST + 32 2 675 54 05 brussels@conferenceboard.org SOUTH ASIA + 91 22 23051402 admin.southasia@conferenceboard.org

THE CONFERENCE BOARD OF CANADA +1 613 526 3280 / www.conferenceboard.ca For CHINA CENTER member benefits information, e-mail Ethan Cramer-Flood at ethan.cramerflood@conferenceboard.org, call +1 212 339 0286 or visit us online at www.conferenceboard.org/chinacenter

© 2014 by The Conference Board, Inc. All rights reserved. The Conference Board® and the torch logo are registered trademarks of The Conference Board, Inc.


Quick Note China Center for Economics and Business

RMB band-widening: Short-term volatility, long-term vulnerability By Andrew Polk

Greater openness to international capital flows via a fully tradable currency is an appropriate goal for China looking forward, as it will help to alleviate non-market distortions in price discovery and capital allocation. But accelerating liberalization in this area belies the painfully slow advances on more intractable challenges like fiscal dislocations, poor SOE governance and widespread moral hazard in domestic credit markets. Many of China’s financial distortions are symptoms of these core structural issues. Thus, purposely introducing volatility via exchange rate reform and capital account opening without resolving these basic challenges to economic governance invites danger.

Key Takeaways 

In the short-term, RMB band-widening will add to exchange rate volatility but do little to change the “soft fall” macroeconomic picture currently unfolding

Market expectations for continued moderate RMB appreciation remain well-anchored over a one-year time horizon, allowing for cheap hedging against depreciation once the market settles

Looking further into the future, if accelerated exchange rate flexibility and capital account liberalization are not matched by domestic structural reform, they may trigger an economic correction – real estate is the obvious catalyst

Broadly speaking, the path for the RMB will now be less linear; even if sustained appreciation resumes, the one-way bet is likely over

Continuing to pursuing capital account opening ahead of more difficult structural economic adjustments (e.g. SOE reform, fiscal restructuring) would suggest leadership is less willing-and-able to address the economy’s fundamental challenges

March 2014

RMB depreciation has temporarily negated the higher interest rate environment that prevailed since June 2013 thus contradicting the PBOC’s supposed desire for a gradually tightening monetary stance

Introduction Earlier this month the Chinese central bank announced a widening of the daily trading band for the USD-CNY exchange rate, doubling the allowed movement to +/-2 percent around the daily fixing rate from +/-1 percent previously. The move has generated spirited debate within China’s policy and business communities: Does it represent a substantive step, or at least a signal, toward longer-term financial liberalization? Or was it designed to project the optics of reform, without having any real impact?


China Center Quick Note

Was the associated devaluation of the RMB a deliberate move to discourage the carry trade? If so, will it continue working?

assumptions for MNC’s in China, at least for the near term. It is true that most major currencies rarely move over two percent against the dollar in a given day, which would seem to imply that the USD-CNY has basic flexibility in daily trading. However, because the two percent corridor for the onshore exchange rate is anchored by the daily fixing rate (i.e. the USD-CNY rate set by the PBoC at the beginning of every trading day), the corridor will continue to have a binding effect on the price of the currency if that initial rate does not sufficiently reflect the market’s appetite.

Or was depreciation pressure unexpected and indicative of a broader change in market sentiment? While the specific intentionality behind the recent band-widening will continue to be a topic of discussion, we are agnostic on the reasoning behind the central bank’s decision. For MNCs, it is more important to understand the ramifications of this small change, particularly as it may signal shifts for the economy and economic policy going forward.

This dynamic is important for two reasons. First, it indicates that, for the time being, the PBoC will keep a tight hold of its macro-prudential tools and continue to maintain a large degree of stability for China’s currency. Eventually more dramatic liberalization may occur, but a one percent band widening leaves many steps ahead on the road to a fully floating exchange rate.

While the larger RMB trading corridor has and will continue to influence short-term movements in financial markets, the implications for the wider macro-economy and for MNC business planning assumptions are not so significant in the near term. Still this policy development does warrant attention vis-à-vis its place in the broader reform agenda. This note will outline its likely ramifications within that context. We draw several conclusions: 1) As long as the PBoC’s daily fixing rate remains in place, the exchange rate will remain far from liberalized; 2) Trading volatility should increase, but for now medium-term appreciation expectations remain well-anchored; 3) The acceleration of exchange rate and capital account liberalization (counterintuitively) highlight the limitations in reform competency: the leadership looks to be firefighting the symptoms of financial system inefficiency rather than addressing root-cause structural problems; 4) The move has temporarily obscured the direction of domestic monetary policy and pursuing future adjustments to the exchange rate regime may have negative longerterm impacts.

In our view one of the more overlooked portions of the PBoC’s recent announcement reads as such: "The People's Bank of China will continue to increase the two-way flexibility of the renminbi exchange rate, keeping the exchange rate fundamentally stable within reasonable and balanced levels” (our emphasis). Essentially, then, the primary aim of the PBoC’s move was to retain a large amount of control over the medium-term trajectory of the yuan, without having to intervene as heavily in day-to-day trading. The second implication of the corridor’s tethering ability is that if expectations – for either appreciation or depreciation – outpace the movements desired by the central bank, the PBoC will again be required to actively buy or sell USD. In other words, the bank’s attempt to reduce intervention might not work if the market consistently tests the trading band’s limit.

Two percent does not equal liberalization

Medium-term stability, short-term volatility

The doubling of the RMB’s allowed daily movement has caused some analysts to tout the credibility of China’s financial reform agenda. However, it is important to note how limited this development is and why it is likely to have little impact on the forward-looking exchange rate

In the short term, trading volatility will increase for USD-CNY. At present, short-term (over the next month or so) market expectations for the RMB are all over the map. Some traders speculate that further depreciation will be necessary to keep market players from piling quickly back into the carry trade. Other analysts expect some forced 2


China Center Quick Note

appreciation by the PBoC in order to keep market sentiment toward China’s currency from turning negative. In recent days, the PBoC has resumed decreasing the fixing rate (nudging toward slight appreciation) in order to counter an accelerated depreciation – as market actors both on and off shore have sought to sell RMB in favor of USD more actively. The relatively large daily fluctuations that such uncertainty has induced are likely to continue over the next several weeks as the market tries to discern the nature of changes in expectations and the PBoC’s stance.

unavoidable outcomes of its “government-led market economy”.1 A strengthening of SOE governance along with a significant improvement in the returns on investment in state-dominated sectors are two of the most fundamental and pressing challenges for economic policymakers. These realities also create the basic impetus for keeping the capital account closed and the exchange rate tightly managed in the first place. Attacking the natural outcomes of a plan-rational2 economic system, rather than its core features, belies how limited the political latitude for real reform remains at this juncture.

Looking forward, the currency may resume its appreciation path throughout this year, but it is unlikely to be a steady upward march. Somewhat less predictable fixing rates should help preempt institutions from taking large (and leveraged) long-RMB positions based on expectations of indefinite appreciation. Thus the central bank may have effectively brought the one-way bet dynamic to an end, along with the associated challenges of managing large, sustained inflows.

Indeed, history suggests that China should proceed with utmost caution in reducing its capital controls. Recent East and Southeast Asian experiences indicate that capital account liberalization significantly increases the probability of a financial crisis.3 And China’s ability to keep money within its borders, despite some porousness in the capital account, is one of the idiosyncratic strengths that allow it to forestall asset price corrections that could otherwise cause a more fundamental economic adjustment. By focusing on financial reform, and capital account reform in particular, authorities seem (wittingly or not) to be presenting the trappings of change while leaving the structural weaknesses of the economy unresolved – and potentially opening the economy to greater volatility at the same time. This seems a hazardous recipe.

While increased short-term volatility will be important for financial markets, the overall medium-term stability of the currency remains a positive for MNCs. Since the beginning of 2014, the RMB depreciated just over 2 percent against the USD at its lowest point. Compare that to, say, the 20 percent devaluation of the Indian Rupee between May and August of last year and it is clear that China’s currency regime still prizes stability above all else. Furthermore, over the next year (at least) market expectations of continued appreciation remain well-anchored. These expectations should allow MNCs to hedge against RMB devaluation, and cheaply, at time horizons between six months and a year. There are currently many macroeconomic headaches for MNCs in China, but the stability of the currency (and the relative ease in hedging against engrained appreciation expectations) is one source of comfort – for now.

Furthermore, as China’s households continue to grow their bases of consumption and wealth, it is likely that deprecation pressures will emerge in time – due to a shrinking trade surplus and individuals’ desire to diversify stores of wealth by shift some domestic money overseas. Thus, the pressure on the currency may shift more fundamentally to the downside in the not-toodistant future, despite the general market consensus that appreciation will continue for several more years. By accelerating capital account liberalization ahead of structural strengthening of the economic system, the

Capital account and the reform agenda More broadly, the fact that capital account opening appears to be moving up the list of reform priorities highlights the glaring lack of movement in more difficult reform areas. Many of the distortions, or non-market mechanisms, within China’s financial system are simply the

1Wu,

Jinglian, “China’s Economic Achievements and Current Challenges”, December 8, 2011. 2Johnson, Chalmers. MITI and the Japanese Growth Miracle: The Growth of Industrial Policy, 1925-1975, Stanford University Press, 1982. 3Aizenman, Joshua. “Financial Opening: Evidence and Policy Options.” NBER Working Paper 8900, April 2002.

3


China Center Quick Note

leadership may be sowing the seeds of a broader correction – particularly in housing prices.

commitment of the central bank to “prudent” monetary policy (which we interpret as meaning policy geared toward very gradual slowing of outstanding credit creation). Furthermore, the developments highlight the fact that Chinese policy goals are often at odds with each other, thus hampering a coordinated reform program. Any sort of accelerated financial liberalization, for example, is simply incompatible with a gradual tightening of the liquidity environment. The latter requires strong control while the former necessitates that control be relinquished.

Large capital inflows over the last decade have combined with immature capital markets to inflate China’s property bubble, which is already showing signs of instability. Last month developers in Hangzhou and Changzhou made headlines by discounting prices on units by 12 percent and 36 percent, respectively, and anecdotal evidence points to developers effectively deflating prices by offering free parking spots, renovations, golf club memberships, or even packaging multiple units together for the “rack price” of one. Just last week, reports indicated that Zhejiang Xingrun Real Estate Co., a developer in the town of Fenghua, has collapsed under the weight of 3.5 billion RMB in debt. With strains on weak property developers likely to build measurably in the near-term and beyond as the economy slows, the domestic real estate market is in a precarious position. Were sustained currency outflows to occur on changing exchange rate expectations, they could provide the pin that pricks the property bubble for good.

At this juncture it is still uncertain whether lower interbank rates (i.e. a looser stance by the PBoC) will continue, but we doubt that such a loose environment will last long because the fundamental drivers of liquidity tightness are still in place: ongoing bank asset deterioration, high leverage within the banking system, continued roll-over of various investment products and ubiquitous regulatory arbitrage. Still, the recent depreciation episode highlights how external factors and exchange rate management can have a major impact on domestic liquidity and credit creation. In theory, an accelerated liberalization of the exchange rate should free up domestic monetary policy by reducing the need for the PBoC to purchase FX inflow at a prescribed rate. However, the previous band-widening in 2012 did little to reduce intervention, thus failing to de-link domestic money creation from FX flows. Indeed, the PBoC’s FX reserves rose 433 billion USD in 2013 (the year after the previous band-widening), up from 385 billion USD in 2011. More broadly, large foreign capital movements can overwhelm domestic monetary policy even without a tightly managed exchange rate, as was proven throughout 2013 by many of China’s neighbors, in particular India and Indonesia.

Complications for domestic monetary policy Strong currency outflows were one contributing factor to the acute liquidity crunch that China’s banking sector experienced in June 2013. In the wake of that episode, the central bank accommodated higher interbank lending rates throughout the rest of the year, in the hope of slowing credit creation. However, strong inflows at the beginning of this year depressed interbank lending rates, even as the central bank withdrew liquidity from the system. The initial movement by the central bank to devalue the RMB in preparation for the bandwidening further depressed rates as the PBoC sold RMB onshore. And already loose RMB liquidity was compounded further still by strong USD demand from onshore banks and corporates, leading the 7-day repo rate to hit a low of 2.22 percent on March 12th before rebounding to 4.18 percent as of March 28th.

Because of China’s size and weight in the global economy, it tends to see much larger swings in capital movements from abroad than many other emerging markets. Over time, then, a loosening of the exchange rate and relaxation of capital controls – if not met with more fundamental structural reform – will simply bring offshore volatility from shifts in global capital flows increasingly into the domestic financial system.

These developments, combined with the recent release of disappointing economic data for January and February, bring into question the 4


China Center Quick Note

We assert that the government first needs to progress reforms in fiscal restructuring, SOE governance and deepening of domestic capital markets to provided stronger structural support for liberalizing the capital account (and the financial system more broadly) in the future. In other words, by necessity, the tougher reform measures need to be addressed first, not last, as these challenges are at the core of China’s structural transition. What’s happening now with some capital account loosening and somewhat greater exchange rate flexibility puts the cart before the horse.

5


About The Conference Board The Conference Board is a global, independent business membership and research association working in the public interest. Our mission is unique: to provide the world’s leading organizations with the practical knowledge they need to improve their performance and better serve society. The Conference Board is a nonadvocacy, not-for-profit entity, holding 501(c) (3) tax-exempt status in the United States.

About The China Center The Conference Board China Center for Economics and Business provides relevant, practical and readily useful business and economic insights and information to senior executives of member companies who all have a significant strategic interest in China. Our insights are informed by local economic and business research, formulated by our thought leaders in China and around the world, and delivered through our exclusive Conference Board events, publications, indicators, and peergroup CEO Council sessions in China.

THE CONFERENCE BOARD, INC. www.conferenceboard.org AMERICAS + 1 212 759 0900 customer.service@conferenceboard.org

The Conference Board China Center public purpose work is made possible by virtue of funding support and thoughtful guidance from the following corporate members.

ASIA-PACIFIC + 65 6325 3121 service.ap@conferenceboard.org

EUROPE/AFRICA/MIDDLE EAST + 32 2 675 54 05 brussels@conferenceboard.org SOUTH ASIA + 91 22 23051402 admin.southasia@conferenceboard.org

THE CONFERENCE BOARD OF CANADA +1 613 526 3280 / www.conferenceboard.ca For CHINA CENTER member benefits information, e-mail Ethan Cramer-Flood at ethan.cramerflood@conferenceboard.org, call +1 212 339 0286 or visit us online at www.conferenceboard.org/chinacenter

© 2014 by The Conference Board, Inc. All rights reserved. The Conference Board® and the torch logo are registered trademarks of The Conference Board, Inc.

6


Quick Note China Center for Economics and Business

Don’t Hold Your Breath for the Emerging Market Sell Off By Andrew Polk

Key Takeaways 

The Federal Reserve's ongoing exit from extraordinary monetary policy (QE tapering and eventual interest rate hike) is unlikely to cause widespread capital flight from emerging markets (EM) as some investors fear

The drag on overall growth of capital flows due to QE tapering should be offset by improvement in the economic outlook for developed markets; and some EMs may have passed the bottom of their slowdowns

Thus, the improving global growth environment should help capital flows to continue gradually recovering from the retrenchment in the summer of 2013

Expectations for Fed policy are baked into market forecasts for bonds, stocks and currencies, and the U.S. central bank remains cautious – it is unlikely to surprise the market with an accelerated exit

Still, heightened risk assessment will lead investors to differentiate among emerging economies more cautiously based on structural strengths and weaknesses

Longer term, performance in structural adjustment programs will be more important to emerging market growth and investment flows than changes in the global financing environment

China is well-placed to combat even an accelerated Fed exit, but changes in global monetary conditions will complicate domestic liquidity management, so it is not completely immune

March 2014

Who’s afraid of the Fed Exit? In recent weeks the fear of a sharp correction in emerging market financial conditions as the Fed continues to exit from its extraordinary monetary policy have caused consternation among investors and emerging market policy makers. But in the short term, fears that foresee a mass exodus of investment from emerging markets appear exaggerated. While the large developing economies across various regions will continue to have relatively weak growth in 2014, overall global conditions will be improved by an uptick in the recovery of developed economies from the U.S. to Europe and Japan. Not only is the improvement in developed world growth likely help to stave off a sharp contraction in global financial conditions, but the fact that many investors have clear and steady expectations about the pace of the Federal Reserve’s exit should help to preclude recent alarmist forecasts for emerging market financial flows from coming to fruition. Furthermore, the risk of contagion across emerging markets also appears low, as investors seem to have differentiated among economies that are more or less vulnerable to rising global interest rates. Still, while we do not foresee a worst case scenario, investors and policy makers should keep in mind three dynamics that are likely to be


China Center Quick Note

prevalent as the Federal Reserve and eventually other developed central banks return to a more traditional policy stance: 1) short-lived bouts of volatility, as were seen in the summer of 2013 and even at the beginning of this year, are likely to continue; 2) countries with large current account deficits, significant external debt and political or institutional frailty will be much more vulnerable to the aforementioned volatility; and 3) in the longer term, a world of slower growth in global capital, as central banks turn off the liquidity taps, will expose the structural imbalances in emerging markets (and elsewhere) that have been masked by large amounts of global liquidity. In other words, for emerging markets, structural weaknesses are the root cause of volatility; the Fed’s tapering is a circumstantial irritant.

programs could not offset the weaknesses that tighter external financing conditions exposed. Furthermore, the rise of political risk in economies such as Argentina, Turkey and the Ukraine exacerbated the uncertainty about emerging markets in general. Meanwhile, the developed world began to gather some steam in the latter half of 2013. Indeed, better growth in the U.S. is what led to the beginning of the Federal Reserve’s exit from its extraordinary monetary policy. After beginning to taper its quantitative easing program in December 2013, and decreasing monthly asset purchases further in both February and March 2014, the Fed is currently indicating that it may once again be able to employ interest rates as its primary policy tool beginning in mid- to late2015, at which time the U.S. central bank believes it will begin to hike rates. The specter of even tighter global liquidity as the Fed readjusts to more traditional policy measures has many market actors speculating that vulnerable emerging markets will see a major financing squeeze – and potentially even an emerging market exit by investors, en masse.

Emerging and developed economic trajectories diverge Over the past two years, large emerging market economies have slowed down pretty much across the board. In Latin America, Brazil’s GDP posted a 2.5 percent increase in 2013, up from the dismal 0.9 percent seen in 2012 but well down from its 7.5 percent growth in 2010. Mexico weighed in with a 1.2 percent growth rate in 2013, down from 5.1 percent in 2010. In Asia, where most large emerging markets reside, Indonesia, India and China have all eased substantially with 2013 growth standing at 0.9, 6.8 and 2.8 percentage points below growth rates in 2010, respectively. Elsewhere, South Africa and Russia have downshifted as well. Growth in South Africa stood at 2 percent in 2013 and Russia saw 1.5 percent expansion in the year, both down from their 2010 rates of 3.1 and 4.5 percent, respectively.

However, one must remember that monetary tightening in the U.S. – and potentially other developed economies – will go hand-in-hand with even further improvements in economic performance for those countries. Indeed, The Conference Board’s projection for GDP growth in the United States this year stands at 3 percent, up from 1.9 percent in 2013. Meanwhile, Europe may not be galloping into a high growth phase, but the Euro Area as a whole will consolidate economic improvements and post positive growth of 1.4 percent for the year, after basically flat growth of 0.1 percent last year. Finally, the recent uptick in Japanese growth may also continue around its current trend, seeing 1.5 percent growth in 2014 – a third year of relatively good performance for Japan. All of these growth improvements should allow global economic growth to expand at 3.5 percent for the year, up from 2.9 percent in 2013, even as emerging market growth stagnates.

In many of these countries, the slowdowns have occurred in part because loose global liquidity was enabling them to grow above their long-term trends. Despite under-investment in infrastructure and lack of genuine improvement in competitiveness for manufacturing, the countries were able to ride the global liquidity tidal wave in order to finance growth cheaply. But once it became clear that global financial conditions were beginning to tighten, the need for emerging economies to consolidate momentum through well-calibrated structural reforms became more urgent. Indeed, emerging market growth overall slowed to 4.7 percent in 2013 from 5.2 percent in 2012 as stalled domestic reform

Long-term adjustments are more critical than short-term fluctuations Giving due attention to the acceleration of growth in the developed world is important because the 2


China Center Quick Note

trade boost from such a transition, as stronger developed economies heighten demand, will to some extent offset weaker investment flows from slower monetary growth. In other words, cash flow movements will partially migrate from the capital account to the current account. Furthermore, improved current account positions among emerging market exporters should lower the overall financing needs of deficit economies, making the reduction in global liquidity less of a shock.

First, as developed economies continue to consolidate gains, a brighter global outlook may help to sustain investor sentiment and thus underpin the gradual recovery in the pace of capital flow growth that has resumed since Q3 2013. But perhaps more importantly, the economic growth slowdown in many emerging markets may be beginning to bottom out. After the transition to tighter external financing that occurred in 2013, policy focus has largely shifted for many emerging markets towards addressing the longer-term structural issues that are currently constraining those economies. In this sense, the Fed’s eventual exit can be seen in a positive light.

A second important item underpinning the dynamics of global capital flows will be the fact that, at present, expectations are arguably wellanchored. As long as the Federal Reserve in particular (and other developed world central banks more generally) does not undertake a sudden acceleration of policy normalization, then markets should be set to take monetary policy developments in stride. At present, the path for a gradual Fed exit is baked into most forecasters’ projections for growth and for investors’ outlooks for stock, bond and currency prices in the shortterm. As such, if the Federal Reserve sticks to its own script, then sudden, widespread seizures in global liquidity are unlikely to occur. Indeed, market expectations for an interest rate hike in the U.S. are hewing closely to the forward guidance offered by the Fed. And with a new (and relatively dovish) Federal Reserve chief just taking the helm, the institution is likely to take a quite cautious stance in regard to the pace of exit.

China, for example, has increased its rhetorical emphasis on economic reform over recent months, even if substantial policy changes are yet to be forthcoming. The Third Plenum Decision document that the country’s leadership released in November last year enumerated a list of sixty long-term challenges that the economy faces. India, meanwhile, has recently sought to boost foreign investment by allowing foreigners to directly access local share markets in amounts of up to 5 percent of a company’s total capital. While this may be a small move, the change shows a recognition of the need to overhaul foreign investment rules more fundamentally. Similarly, Malaysia has recently moved to relax investment rules for foreign automakers, particularly for ecofriendly vehicles, while Mexico voted to implement wide-ranging fiscal and structural reforms in 2013, seeking into increase the country’s productivity growth. It is the success or failure of these and other structural adjustments to emerging market growth models that will determine investor appetite, and broader economic performance, over the longer term.

Finally, looking back and forward, 2013 may have actually marked the nadir of growth in global capital flows. According to the Institute of International Finance, total capital flows to emerging markets contracted by almost 10 percent in 2013 – a large dip from 2012’s 4 percent positive growth – due to the market’s digestion of slower growth outlooks for emerging markets and the onset of the Fed exit.1 However, while growth in capital flows to emerging markets may not recover to the halcyon days of 2007, when the level of capital flows to emerging markets reached historic highs at about 1.3 trillion USD, a gradual recovery in flows could well be ongoing over the next couple of years for several reasons.

But differentiation among EM’s matters But even as the real challenge for many emerging markets lies in policy-driven structural adjustment, short-term risks remain – especially for economies with specific vulnerabilities. While we do not anticipate a worldwide shift in capital flows, entailing a global flight to safety, investors are clearly becoming more discerning about investing in emerging markets now that somewhat tighter financial conditions are exposing vulnerabilities and eliminating the

1Institute

of International Finance, “Capital Flows to Emerging Market Economies,” January 2014.

3


China Center Quick Note

potential for speculative gains driven by excessive liquidity. In particular, countries with large current account deficits have come under scrutiny.

rather than selling off emerging markets wholesale as interest rates rise.

China presents an unusual but instructive test case

In Asia, India and Indonesia were two of the hardest hit countries from the retrenchment in global capital flows throughout the summer of 2013. Indeed, the Indonesian Rupiah was Asia’s worst performing currency last year, depreciating 6 percent in August alone and over 21 percent throughout the year. India’s Rupee fell 20 percent between May and August of 2013 before stabilizing and ending the year down 2.5 percent from the end of 2012. Meanwhile, both countries saw their stock markets drop throughout the year with the Jakarta Composite Index down 3.3 percent in 2013 and the Sensex down 3.6 percent for the year in dollar terms. More broadly, investors have outlined a group of economies known as the “Fragile Five” (a term first coined by Morgan Stanley analysts) adding South Africa, Brazil and Turkey to India and Indonesia. Each of these economies has a sizable current account deficit (5 percent of GDP on average) and thus relatively large financing needs and consequent currency vulnerability.

One interesting and unusual case in regard to the effect of global capital flows on the domestic landscape comes from China. Recent events in Chinese financial markets highlight clearly the notion that longer-term structural challenges matter most for the health of globally integrated economies in the face of Fed easing – even as short-term dynamics can cause complications in the calibration of monetary policy and macroprudential decisions. From an external financing standpoint, China is exceptionally well-placed to deal with weaker global capital flows. It has a large current account surplus (of 224 billion USD in 2013), little external borrowing (around 10 percent of GDP at most) and 3.8 trillion USD of foreign exchange reserves. As such, China could defend against even an accelerated pullback in monetary support by the United States and other developed economies relatively easily. However, while China’s defenses against changes in the size and direction of capital flows are robust, bouts of volatility can have a significant impact on domestic policymaking.

In comparison, economies with capital account surpluses (especially when coupled with strong FX reserves and less outstanding external financing) have seen much less volatility. Mexico, for example, has a relatively small current account deficit of 1.3 percent of GDP and is of course closely tied to the fortunes of the rebounding U.S. economy. So despite structural weakness and a stalled reform program (until recently), the peso was more resilient throughout the year, depreciating only 1 percent against the dollar. Other emerging countries with current account surpluses like Malaysia, Russia and even the perennial sick-man of Asia, the Philippines, fared relatively well in 2013, experiencing less significant economic slowdowns (although Russia’s recent political and military actions have since taken a toll on the value of the currency). Such a diverging treatment of countries by the global investment community suggests that economic fundamentals, including political and institutional stability, matter significantly in assessing the strengths of different economies and the investment opportunities they offer. Furthermore, it suggests that contagion risk is relatively low, as investors seem to be appreciating country-specific vulnerabilities

In recent years, China’s monetary authorities have relied upon inflows of foreign cash to underpin domestic liquidity creation. While it’s true that authorities could use domestic means to grow the monetary base, strong capital inflows have enabled liquidity and credit creation in China’s domestic economy while making exchange rate management relatively straight forward and enabling the large buildup of foreign exchange reserves. Furthermore, the People’s Bank of China (PBoC) has become adept at sterilizing capital inflows, and this ability has allowed the authorities to outsource overall liquidity creation while keeping a handle on domestic inflation. Finally, high overall economic growth for many years, combined with the strong structural foundation of the economy, allowed policymakers to oversee high credit growth without the worry that capital misallocation would become so widespread as to threaten the financial system. However, since 2009 China’s fundamental productivity growth has begun to slow rapidly. As such, the economy has entered a phase where 4


China Center Quick Note

credit expansion needs to be much more selective in order to generate returns and to enable genuine economic activity (as opposed to growth of speculative assets in the financial economy). Because of this changing dynamic, China’s policymakers have had to more consciously ease credit creation off-and-on since 2011. At the same time, changes in the direction and size of global capital flows related to the Fed’s tapering have introduced another variable into the mix for China’s monetary authorities, making monetary management both more complex and difficult. This situation was most clearly evidenced in June last year when the Chinese banking system saw interbank interest rates spike above 25 percent for overnight repurchase contracts. At that point China’s central bank was seeking to introduce some discipline onto credit creation by slowing its liquidity support for the banking system. However, large currency outflows (due both to weaker Chinese growth and global capital retrenchment on the back of a shift in expectations about Federal Reserve policy) sent liquidity demand in China’s domestic market through the roof unexpectedly. Mini versions of this episode recurred in November and December.

changes in the size and speed of investment into (and out of) China will likely increase in duration and frequency. Furthermore, since China’s yearly trade surplus has shrunk to less than 3 percent of GDP, these short-term flows may become even more important in driving overall liquidity conditions from month to month. As such, one of the most important implications that the Federal Reserve exit will have for China over the longer term is likely to be a postponing of financial liberalization. The desire to undertake such reform has long been a stated goal of China’s leadership, and it has become even more highly emphasized by financial authorities in recent months. However, increased marketization of both the domestic banking system and its links to the outside world will only increase the volatility and vulnerability of the system at a time when growth is already slowing due to diminishing productivity gains. At this juncture, increased financial openness would only exacerbate the sort of liquidity crunches that occurred throughout 2013 and expose the inefficiencies of Chinese banks. Thus, the normalization of developed world monetary policy will challenge the structural weakness of China’s closed financial system more fundamentally over the long term.

It is likely that China will continue to struggle with the effects of monetary policy changes in the advanced economies because of their inherent impacts on domestic liquidity conditions. But the implications of these dynamics are even more important to China’s long-term structural transition, and economic reform, than they are to day-to-day liquidity management. As mentioned above, China has the overall policy tools to react to changes in external financing conditions. Furthermore, the liquidity dynamics within China’s financial markets are primarily driven by domestic circumstances, most importantly: the deterioration in the quality of Chinese bank assets and the continuing proliferation of shadow bank financing in China; plus the increased use of interbank markets by mid-size Chinese banks in recent years and the administrative changes that Chinese authorities have enacted in reaction to these developments. Thus, changes in the size and direction of global capital flows are one catalyst among many in the short term that the PBoC must effectively manage – but of less importance than the many domestic challenges that need to be remedied.

It is in this way that China’s situation mirrors, and epitomizes, that of other emerging markets vis-àvis developed world monetary normalization. Increased volatility of global capital flows may serve to create headaches in the short term (with bigger problems for more exposed deficit countries, as discussed). However, it is each country’s longer-term structural challenges, and the way they are resolved (or not), that will be determinant to their enduring economic strength, financial viability and currency stability. The expansive global monetary policy of recent years has, if anything, been one important factor allowing emerging markets to forestall structural reform. This era is now close to an end, and policy makers in emerging markets had best respond with long-overdue reforms.

Because the overall growth trend of capital flows from advanced markets is lower than in the past, 5


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6


Chart of the Week

CEO dismissals in the S&P 500 FROM CEO SUCCESSION PRACTICES: 2014 EDITION

In 2013, the rate of CEO dismissals among S&P 500 companies was 23.8 percent, the lowest level since 2009. For the purpose of this analysis, a CEO dismissal (or disciplinary succession) is defined as a departure occurring prior to the age of 64 and when industry-adjusted total shareholder return (TSR) is in the bottom quartile of all S&P 500 companies. Industry-adjusted TSR is calculated as the two-year TSR minus the two-year TSR of all S&P 500 companies in the same industry. The rate of dismissals varies rather widely across the 2000–2013 period; rates range from 40.0 percent in 2002 to 13.2 percent in 2005 (on average, 24.3 percent for the 14-year period). In 2013, nearly 67 percent of CEO successions in the extraction industry and half of those in the wholesale and retail and services industries were the result of a CEO dismissal. There were no instances of disciplinary successions in the transportation and communication industries in 2013. Chart 10

Chart 9

Disciplinary departures Disciplinary(2000–2013) departures (2000–2013)

Disciplinary departures by industry (2013) Disciplinary departures by industry (2013)

40.0

% Disciplinary successions

33.3 27.6

30.0 24.0

20.9% 22.5

18.2 13.2

16.0

25.5

29.4 23.8

16.1

* Revised calculation edition, reflecting to the underlying *Revised calculation fromfrom 20132013 edition, reflecting updatesupdates to the underlying dataset. dataset. Source: The Conference based on raw Board, data from Center in Security Source:Board, The Conference based onfor rawResearch data from Prices (CRSP), 2014. Center for Research in Security Prices (CRSP), 2014.

50.0

Services

28.6

Finance, Insurance Manufacturing

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012* 2013

50.0

Wholesale, Retail

Consumer Products

–– ––

66.7%

Extraction

16.7 10.0

Transportation, Communication 0.0 Other 0.0 Source:Source: The Conference Board, based on raw dataon from Center Research in Security The Conference Board, based raw data for from Prices (CRSP), Center2014. for Research in Security Prices (CRSP), 2014.

Why it matters… Scrutiny of CEO performance is particularly acute during the first five years of tenure, and even more so if the company is faring poorly. Recent findings on reduced CEO dismissal rates reflect the upward swing in financial performance, as well as the regained trust in business shown after the market crash of 2008. The influence of company financial performance on CEO succession events is generally higher among smaller companies (measured by annual revenue and asset value), while the importance of age in explaining variation in CEO departures is generally highest among larger companies. CEO succession rates also depend on the characteristics of the board, in that they increase when the percentage of independent directors is higher and decrease with the percentage of CEO stock holdings, as well as when the CEO is the founder or is from the founding family.

For more information on trends in CEO succession and a discussion of notable succession events occurring in 2013, download CEO Succession Practices: 2014 Edition at www.conference-board.org/CEOsuccession2014 or contact Matteo Tonello at matteo.tonello@conference-board.org The publication was made possible thanks to a research grant by Heidrick & Struggles. CW-052 | April 2014

© 2014 The Conference Board, Inc. All rights reserved.


Chart of the Week

CEO inside promotions versus outside hires FROM CEO SUCCESSION PRACTICES: 2014 EDITION

Chart 13

Inside promotions and outside hires Inside promotions and outside hires(2011–2013) (2011–2013)

While momentum has slowed, the overall upward trend recorded since the 1970s of the hiring of outsiders to fill vacated CEO positions is Chart 14 of incoming CEOs were “outsiders” continuing in the 2010s. In 2013, 23.8 Average tenure-in-company of insiders who were promoted to the CEO position after (2000–2013) serving less than one year with the company. For 2000–2013, the average tenure-in-company of an “insider” promoted to CEO after serving at least one year with the company was 15.1 years. The percentage of successions involving a “seasoned executive” (tenure in the company of at least 20 years) has continued to decline since the 1980s. In 2013, only 26.2 percent of insider promotions involved a “seasoned executive,” down from 30.2 percent in 2012.

Insider

2013 (N=42) 76.2%

Years with company

18.0

2012 (N=53)

14.0

17.0

2011 (N=55)

13.0

12.0

100%

Source: The Conference Board based onon data from company IR IR websites, 2014. Source: The Conference Board based data from company websites, 2014.

15 Incoming CEOs who areChart “seasoned executives” Incoming CEOs who are “seasoned executives” (2011–2013) (2011–2013)

Non-seasoned

Seasoned

2013 (N=42) 15.8 16.2

73.8%

26.2

2012 (N=53)

12.0

69.8

10.0

30.2

2011 (N=55) 68.0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Source: The Conference Board, based on raw data from Compustat ExecutiveC ompensation (ExecuComp) database, and company IR websites, 2014.

–– ––

19.2

0

14.0

13.7

27.1

80.8

19.0 17.0

23.8

72.9

Average tenure-in-company of insiders (2000–2013) 19.0

Outsider

0

100%

Note:Note: A “seasoned executive” has 20 years or more with the A “seasoned executive” has 20 years or more withcompany. the company. Source: The Conference Board, based on raw data from Compustat Source: The Conference Board, based on raw data from Compustat Executive ExecutiveC ompensation (ExecuComp) database and company IR websites, 2014. Compensation (ExecuComp) database and company IR websites, 2014.

Why it matters… Better-performing companies are more likely to appoint a seasoned executive as CEO. For example, 34.6 percent of incoming CEOs in companies with better performance (industry-adjusted total shareholder return above the bottom quartile of all S&P 500 companies) were seasoned executives, compared to 12.5 percent of incoming CEOs in poorly performing companies. The market for lateral hires of CEOs has expanded in the last four decades. This trend is directly correlated with the progressive reduction of tenure observed during this time. While in some cases, the outside recruitment of a CEO may be indicative of poor succession planning, growth strategies in today’s ever-changing and globalized marketplace force companies to regularly probe their business direction and seek innovation outside of their internal pool of top talents.

For more information on trends in CEO succession and a discussion of notable succession events occurring in 2013, download CEO Succession Practices: 2014 Edition at www.conference-board.org/CEOsuccession2014 or contact Matteo Tonello at matteo.tonello@conference-board.org The publication was made possible thanks to a research grant by Heidrick & Struggles. CW-053 | May 2014

32.0

© 2014 The Conference Board, Inc. All rights reserved.


Chart of the Week

Transitioning to a new CEO and board leadership FROM CEO SUCCESSION PRACTICES: 2014 EDITION

In 2013, only 9.5 percent of S&P 500 CEO successions involved immediate joint appointment as board chairman—a significant decline from 18.8 percent in 2012 and 19.2 percent rate in 2011. Based on a review of 2013 succession announcements, 52.4 percent of departing CEOs remained as board chairman for at least a brief transition period, typically until the next shareholder meeting. This rate is higher than the approximately 33 percent reported in 2012. Across industries, fewer than half of companies report using the practice of “auditioning” a potential CEO by training and testing through temporary assignments as chief operating officer or chief financial officer. Among nonfinancial services companies, larger companies (in terms of annual revenue) are much more likely to use such assignments than smaller ones. Among financial services companies, which reported the highest adoption rate (42.1 percent), those with assets of less than $10 billion were most likely to “audition” a potential CEO.

––

Why it matters…

––

While some departing CEOs appear to remain actively involved in the company after relinquishing their chief executive role, other boards use the succession as an opportunity to adapt to evolving board leadership practices and trigger the separation of CEO and chairman duties. The choice is influenced by factors such as the personalities involved, the possible need to further facilitate the transition, or specific business circumstances that may require the retention of the departing CEO’s talents and network. Data on auditioning practices reveal that, for many companies, the executive suite continues to be rigidly compartimentalized. This is detrimental to CEO succession planning, which should be viewed as an ongoing leadership development process that is integral to the business strategy and corporate culture. For this reason, the board should ensure that top leaders in the organization are regularly challenged through assignments outside of their traditional area of responsibility.

Chart 17

Joint election as as board chairman Joint election board chairman(2011–2013) (2011–2013) Not a chairman

Named chairman

2013 (N=42) 90.5%

9.5

2012 (N=53) 81.2

18.8

2011 (N=55) 80.8

19.2

0

100%

Source:The TheConference ConferenceBoard, Board,based basedon ondata datafrom fromcompany companyIRIRwebsites, websites, 2014.. Source: 2014.

Chart 22

Companiesadopting adopting CEO auditioning practice (2013) Companies CEO auditioning practice (2013) BY INDUSTRY Manufacturing (N=72)

38.9%

Financial services (N=19)

42.1

Nonfinancial services (N=68)

30.9

BY ANNUAL REVENUE $20 billion and over (N=23)

43.5

$5 billion - $19.9 billion (N=28)

46.4

$1 billion - $4.9 billion (N=47)

27.7

$500 million - $999 million (N=20)

30.0

Under $500 million (N=22)

31.8

BY ASSET VALUE $10 billion and over (N=10)

20.0

Under $10 billion (N=9)

66.7

Source: The Conference Board/Stanford GSB/IED, 2014. Source: The Conference Board/Stanford GSB/IED, 2014.

For more information on trends in CEO succession and a discussion of notable succession events occurring in 2013, download CEO Succession Practices: 2014 Edition at www.conference-board.org/CEOsuccession2014 or contact Matteo Tonello at matteo.tonello@conference-board.org The publication was made possible thanks to a research grant by Heidrick & Struggles. CW-054 | May 2014

© 2014 The Conference Board, Inc. All rights reserved.


Chart of the Week

Mandatory CEO retirement policy FROM CEO SUCCESSION PRACTICES: 2014 EDITION

Mandatory retirement policies based on age remain a marginally used element of CEO succession plans. Among S&P 500 companies that had a CEO succession event in 2013, only 21.4 percent of manufacturing companies and 21.1 percent of financial services companies had an age-based mandatory retirement policy for CEOs. In the nonfinancial services sector, the proportion is even lower (13.2 percent). By company size, there is a clear direct correlation between the frequency of such a policy and annual revenue. Manufacturing and nonfinancial companies with annual revenue of $20 billion or greater report the highest rate of adoption (30.4 percent), while those with annual revenue under $500 million report the lowest rate (4.8 percent). Among the companies that do adopt a mandatory CEO retirement policy based on age, the limit after which the CEO is expected to retire is almost always 65 years of age.

–– ––

Chart 25

Mandatory CEO retirement policy (2013) Mandatory CEO retirement policy (2013) BY INDUSTRY 21.4%

Manufacturing (N=70)

21.1

Financial services (N=19)

13.2

Nonfinancial services (N=68)

BY ANNUAL REVENUE 30.4

$20 billion and over (N=23)

25.0

$5 billion – $19.9 billion (N=28)

15.2

$1 billion – $4.9 billion (N=46)

10.0

$500 million – $999 million (N=20) Under $500 million (N=21)

4.8

BY ASSET VALUE $10 billion and over (N=10) Under $10 billion (N=9)

20.0 22.2

Source: The Conference Board/Stanford GSB/IED, 2014.

Source: The Conference Board/Stanford GSB/IED, 2014.

Why it matters… With longevity, the CEO can cultivate closer ties with directors, which may hinder the independence of board oversight and weaken the objectivity of the performance evaluation process. When adequately used, policies on CEO retirement based on age or term limits may offer an additional safeguard to existing governance practices and serve as an integral component of CEO succession planning. CEOs are less fungible in smaller companies, which cannot compete as effectively as their larger counterparts in the market for top talent and are more dependent on the continuity of the team in charge of business strategy execution. For this reason, smaller companies may be unable to afford the organizational costs resulting from a CEO retirement policy.

For more information on trends in CEO succession and a discussion of notable succession events occurring in 2013, download CEO Succession Practices: 2014 Edition at www.conference-board.org/CEOsuccession2014 or contact Matteo Tonello at matteo.tonello@conference-board.org The publication was made possible thanks to a research grant by Heidrick & Struggles. CW-055 | June 2014

© 2014 The Conference Board, Inc. All rights reserved.


Director Notes

Corporate Governance Practices in US Initial Public Offerings by Richard J. Sandler and Joseph A. Hall

Despite pressure on US public companies to adopt certain governance practices, a review of the largest initial public offerings (in terms of deal size) shows that newly public companies continue to exercise a great deal of latitude in designing their governance structures, at least at the time of their IPO. This report discusses governance practices for the largest US IPOs from September 2011 through October 2013 and compares them with companies that went public in the United States during two earlier periods.* Amid the recent uptick in IPOs, we examined the corporate governance practices of newly public companies and found that pressure placed on seasoned issuers by shareholders and proxy advisory firms to update or modify governance practices has had a limited impact on IPO companies. We reviewed the IPO prospectuses for the 100 largest IPOs, in terms of deal size, from September 2011 through October 2013.1 Deal size of the examined IPOs ranged from $131.5 million to $16.0 billion. About half were “controlled companies” as defined under New York Stock Exchange or NASDAQ listing standards and therefore eligible for exemptions from some NYSE and NASDAQ governance

requirements. Since the governance practices of controlled companies can differ greatly from those of “noncontrolled” companies, our discussion focuses primarily on the governance features of the 46 noncontrolled companies in our sample. The 2013 findings are compared with findings from similar reviews conducted in 2011 and 2008. We conclude with a brief comparison of noncontrolled versus controlled companies in the 2013 sample.

* Portions of this Director Notes are adapted from “Governance Practices for IPO Companies: A Davis Polk Survey,” Davis Polk & Wardwell LLP, January 2014 (www.davispolk.com/sites/default/files/012114Governance PracticesforIPOCompanies.html).

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Despite growing pressure on public companies to update or modify their practices, we found that corporate governance at IPO-stage companies remained largely unchanged from

The companies surveyed in this article exclude foreign private issuers, limited partnerships, real estate investment trusts (REITs), trusts, and blank check companies.


Table 1

Snapshot of key corporate governance practices at noncontrolled IPO companies 2011-2013 n=46

Survey period 2009-2011 n=50

2007-2008 n=50

Average level of board independence

72%

74%

66%

Fully independent audit committee

83

78

78

Plurality voting in uncontested board elections

93

94

96

Classified boards

70

78

74

Primary listing on NYSE

52

52

42

Dual or multiclass common stock

28

18

8

Use of compensation consultant

35

62

66

Permit shareholder action by written consent

22*

10

22

Independent chairman

22

22

10

Exclusive forum provisions

57

14

n/a

Separate chairman/CEO

48

34

52

*Of this 22 percent, 11 percent required the written consent to be unanimous, effectively rendering the right moot. Source: Davis Polk & Wardwell LLP

our earlier studies, which covered January 2007–December 2008 (our 2008 survey) and January 2009–August 2011 (our 2011 survey). In all three studies, at least 70 percent of the examined companies had classified (or staggered) boards and more than 90 percent had plurality voting for uncontested director elections—two of the governance features currently in the sights of governance advocates (see Table 1). That said, the most recent cohort demonstrated a greater trend toward a few practices considered by some to be “shareholder friendly.” For example, the number of companies lacking an independent chairman, but that appointed a lead director, increased over the past several years to 28 percent in 2013 from 22 percent in 2008. Overall, it appears that IPO companies continue to have a free hand in designing their governance structures, at least out of the gate. This freedom suggests to us that the portfolio managers who buy shares in the IPO are less concerned with the hot-button governance issues that public companies have grappled with in recent years than are their colleagues who later have responsibility for voting those shares. After the glow of the IPO begins to fade, many of these companies (and their directors) will begin to feel the influence of proxy advisory firms, say-on-pay votes,

Largest Noncontrolled Company IPOs in the United States (September 2011–October 2013) The findings of the 2013 survey are based on information in the IPO prospectuses filed by the following noncontrolled companies: Angie’s List, Inc.*

Gigamon Inc.

SFX Entertainment, Inc.

Gogo Inc.

Nationstar Mortgage Holdings Inc.

Artisan Partners Asset Management Inc.

Groupon, Inc.

Ophthotech Corp.*

Springleaf Holdings, Inc.*

Guidewire Software, Inc.

Palo Alto Networks, Inc.*

Sprouts Farmers Market LLC*

Clovis Oncology, Inc.

Home Loan Servicing Solutions, Ltd.

Pattern Energy Group Inc.

Cvent, Inc.*

Capital Bank Financial Corp. CDW Corp.

Delphi Automotive PLC* Diamondback Energy, Inc. EverBank Financial Corp. ExactTarget, Inc. FireEye, Inc. Fox Factory Holding Corp.

Splunk Inc.*

Tableau Software, Inc.

Intrexon Corp.

PennyMac Financial Services, Inc.

Jive Software, Inc.

Portola Pharmaceuticals, Inc.*

Vantiv, Inc.*

Jones Energy, Inc.

PTC Therapeutics, Inc.*

Veeva Systems Inc.

LifeLock, Inc.

Puma Biotechnology, Inc.

Violin Memory, Inc.*

Matador Resources Co.

RetailMeNot, Inc.

William Lyon Homes, Inc.

Millennial Media, Inc.

Rocket Fuel Inc.

Zynga Inc.

National Bank Holdings Corp.

ServiceNow, Inc.

TRI Pointe Homes, Inc.

*Davis Polk & Wardwell LLP participated in the IPO. Source: Davis Polk & Wardwell LLP

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Table 2

Figure 1

Breakdown of IPO companies by industry (2013)

Primary listing exchange

The 46 companies reviewed spanned 21 industries Industry Software

Number of companies 7

NASDAQ

NYSE

AMEX

2 48

52%

48

52

Internet software & services

5

Pharmaceuticals

4

Banks

3

Oil & gas

3

Other financials

3

Advertising & marketing

2

Automobiles & components

2

Biotechnology

2

Computers & peripherals

2

Construction & engineering

2

IT consulting & services

2

Alternative energy sources

1

Asset management

1

Computers & electronics retailing

1

Credit institutions

1

Figure 2

E-commerce / business-to-business (B2B)

1

Classes of common stock

Electronics

1

Food & beverage retailing

1

Other telecommunications

1

Recreation & leisure

1

2011-2013 n=46

2009-2011 n=50

56

42

2007-2008 n=50

Source: Davis Polk & Wardwell LLP

companies opting for a dual or multiclass common stock structure. This feature is typically seen in companies where founders wish to retain control even as their economic stake diminishes and is generally viewed unfavorably by corporate governance advocates.

Leadership Independent chairman In recent years, shareholders have

Two or more classes of common stock

One class of common stock

8 28

72%

18

82

92

Source: Thomson Reuters

shareholder proposals, and the like. The fact that companies appear largely isolated from these concerns at IPO time once again raises questions about the strength of the link between corporate governance “best practices” and perceptions of shareholder value.

Listing and Classes of Common Stock Primary listing exchange Due to the convergence of listing standards over the last several years and the impact of the Sarbanes-Oxley and Dodd-Frank Acts, the choice of listing exchange no longer says much about a company’s corporate governance profile. Companies surveyed in both our 2011 and 2013 surveys were closely split between listing on the NYSE and the NASDAQ. This finding was a shift from our 2008 survey, which showed slightly more companies favoring the NASDAQ versus the NYSE.

2011-2013 n=46

2009-2011 n=50

2007-2008 n=50

Source: Davis Polk & Wardwell LLP

waged several high-profile campaigns to encourage public companies to split the role of chairman and CEO and to install an independent director as chairman, based on a theory that this separation of powers allows more effective board oversight of the CEO. Of course, many companies believe that combining the two roles allows the board and management to work together more closely, enhancing financial performance to shareholders’ benefit. The number of IPO companies with an independent chairman increased from 10 percent in 2008 to 22 percent in each of 2011 and 2013.

Classes of common stock While the great majority of IPO companies surveyed in 2013, 2011, and 2008 had only one class of common stock, we noticed an increase over time in

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Figure 3

Appointment of an independent chairman No

Yes

10 78%

22

78

2011-2013 n=46

22

2009-2011 n=50

90

2007-2008 n=50

Board authority In our 2013 survey, we examined the board’s authority to change board size and to fill directorship vacancies. Virtually all companies granted the board this authority. Voting in uncontested board elections Nearly all companies surveyed in 2008, 2011, and 2013 adopted a plurality standard for uncontested board elections, despite the popularity among governance advocates for a majority-vote standard.

Source: Davis Polk & Wardwell LLP

Figure 4

Lead director Public companies that combine the chairman and CEO roles or that have a chairman who is otherwise not independent are often encouraged to appoint a lead director to preside at meetings of independent directors. Some members of the governance community advocate giving the lead director expanded responsibilities, such as power over meeting agenda items and the ability to call meetings of the independent directors. Among the IPO companies reviewed that did not have an independent chairman, the number with a lead director increased to 28 percent in 2013 from 22 percent in 2008.

Board Composition, Authority, and Independence Board size Average board size remained consistent, at about eight members, across the periods covered by our three surveys. In the 2013 survey, board size ranged from 3 to 14 members. Consistent with our 2008 and 2011 surveys, there was no distinct correlation between deal size and board size in our latest survey. Chart 1

Board size at time of IPO (2013) 16 14

Board size

12 10 8 6 4 2 0 0

200

400

600

800

// 1,000 1,200 1,400 1,600 1,800 $20,000

Deal size ($ millions) Source: Davis Polk & Wardwell LLP

4

Voting standard in uncontested board elections Plurality voting

7

Majority voting

6 93%

2011-2013 n=46

4 94

2009-2011 n=50

96

2007-2008 n=50

Source: Davis Polk & Wardwell LLP

Level of board independence A newly public company must have at least one independent director at the time of its IPO. NYSE and NASDAQ standards require that the board of a noncontrolled company consist of a majority of independent directors within one year of the listing date. We found that the average level of director independence has increased over the past several years, from 66 percent in our 2008 survey to 72 percent in our 2013 survey (see Table 1, p. 2). Audit committee financial experts An audit committee financial expert is a member of the committee who has the following attributes: (1) an understanding of generally accepted accounting principles and financial statements; (2) the ability to assess the general application of such principles in connection with accounting for estimates, accruals, and reserves; (3) experience preparing, auditing, analyzing, or evaluating financial statements that present a breadth and level of complexity generally comparable to the issues expected to be raised by the company’s financial statements or experience actively supervising personnel engaged in such activities; (4) an understanding of internal control over financial reporting; and (5) an understanding of audit committee functions. In their annual reports, companies are required to name each audit committee financial expert or explain the reason they do not have one. Although companies are not required

Director Notes Corporate Governance Practices in US Initial Public Offerings

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to include this disclosure in the IPO prospectus, they often do so voluntarily. Among companies reviewed that made voluntary disclosures, the percentage of companies with more than one expert declined; 18 percent of companies reviewed in 2013 that made such disclosure indicated that they had more than one expert, compared with 32 percent in 2011. Audit committee independence Under NYSE and NASDAQ rules, an IPO company must have at least one independent audit committee member at the time of listing, at least a majority of independent members within 90 days of the effective date of its IPO registration statement, and a fully independent committee within one year of its registration statement effective date. In addition to the NYSE/NASDAQ independence standards that apply to all independent directors, audit committee members must meet additional independence tests prescribed by the US Securities and Exchange Commission. These tests provide that an audit committee member may not (other than in his or her capacity as a member of the audit committee, the board, or any other board committee): (1) accept any consulting, advisory, or other compensatory fee from the company (excluding fixed, noncontingent payments under a retirement plan for prior service with the listed company); or (2) be an “affiliated person” of the company. In practice, the affiliated-person prohibition means that directors affiliated with large shareholders do not sit on the audit committee, even though they may otherwise be deemed independent under stock exchange listing standards. Consistent with prior years, the great majority, or 83 percent, of companies in the 2013 sample had a fully independent audit committee at the time of IPO. Figure 5

Audit committee independence Fully independent audit committee Less than fully independent audit committee

17

83%

2011-2013 n=46

22

78

2009-2011 n=50

Source: Davis Polk & Wardwell LLP

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22

78

2007-2008 n=50

Nominating/governance and compensation committee independence Stock exchange rules provide similar one-year transition periods before all members of a noncontrolled company’s nominating/governance and compensation committees are required to be independent. As with audit committees, most companies surveyed in 2013 had fully independent nominating/governance committees (85 percent) and compensation committees (89 percent) at the time of IPO.

Protective Mechanisms IPO companies continue to deploy charter and bylaw provisions that can help ward off advances from unwanted suitors, despite the fact that governance advocates (and activist investors) have shown a pronounced dislike for what they view as management-entrenchment devices. Of course, these provisions can also put the company in a better bargaining position, allowing it to extract the best possible deal for shareholders in a change in control. Poison pills A typical shareholder rights plan, or poison pill, grants the existing shareholders of a company (other than a hostile suitor) the right to acquire a large number of newly issued shares of the company (and of the suitor if the target company is not the surviving entity) at a significant discount to market value once the suitor becomes owner of more than a preset amount (typically 10-20 percent) of the target company’s stock without prior board approval. The board can elect to redeem the poison pill at a trivial amount or deem the rights plan inapplicable to suitors of its choosing, with the result that any potential suitor must negotiate with the board (or replace the board through a proxy contest) before it acquires a significant stake. This forced negotiation results because the cost to the suitor of crossing the ownership threshold would be prohibitive if the shareholder rights plan were triggered. So long as “blank check” stock power is provided in the charter, a shareholder rights plan can usually be adopted at a later time instead of at the IPO. In most cases, shareholder rights plans are not adopted at the time of the IPO. “Blank check” preferred stock A company’s charter may give it authority to issue preferred shares while empowering the board to determine the specific terms of those shares at a future date without a shareholder vote. This “blank check” authority is often used while defending against a hostile takeover in order to adopt a poison pill.

Director Notes Corporate Governance Practices in US Initial Public Offerings

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Figure 8

No companies reviewed in 2011 or 2013 had a poison pill in place at the time of their IPO, and only a handful (6 percent) had a pill in place in the 2008 sample. Not surprisingly, across all three periods, nearly all of the IPO companies reviewed were authorized to issue “blank check” preferred stock.

Board structure at time of IPO Classified

30

70%

Declassified

22

78

26

74

Figure 6

Existence of a shareholder rights plan (poison pill) Yes

2011-2013 n=46

No

2011-2013 n=46

100

2009-2011 n=50

94

2007-2008 n=50

Source: Davis Polk & Wardwell LLP

Figure 7

Authorization to issue “blank check” preferred stock Yes

2 98%

2011-2013 n=46

No

2

4 98

2009-2011 n=50

96

Shareholder restrictions Limits on shareholder action can constrain the ability of a potential suitor to take control of the company without having to negotiate with the board. Examples include restricting shareholders’ ability to call a special meeting, requiring advance notice for a shareholder to offer an item of business at a meeting, and prohibiting shareholder action by written consent. As with the other protective mechanisms discussed above, most of the companies in our 2013 sample imposed these restrictions on shareholders. For example:

Eighty-three percent had bylaws that prohibited shareholders from calling a special meeting.

All but one company had bylaws that imposed notice and other requirements for a shareholder to propose business for a meeting, including the nomination of a director.

Only 22 percent had provisions that permitted shareholder action by written consent, and half of those companies required the written consent to be unanimous, effectively rendering the right moot.

2007-2008 n=50

Source: Davis Polk & Wardwell LLP

Classified board The implementation of a classified (or staggered) board often serves as a protective mechanism in the context of a takeover by ensuring that a hostile suitor cannot simply replace an entire board at one time. Typically, a classified board is composed of three equally divided classes of directors, with each class elected in successive years. A classified board serves as a complement to the protection afforded by a poison pill, in that it often forces a suitor to conduct a proxy contest over two consecutive years (time the would-be buyer may not be willing to wait, leading it to engage with the incumbent board) before it can take over the board and revoke the poison pill. Across all three survey periods, roughly three-quarters of the companies reviewed had a classified board, despite the declassification trend encouraged by institutional investors and proxy advisors during the last decade.

Exclusive Forum Provisions Following the Delaware Court of Chancery’s June 2013 decision upholding the validity of board-adopted exclusive forum provisions—which require certain shareholder disputes to be litigated exclusively in designated courts— adoption of these provisions has resumed and continues to grow.2 Our findings support this; 57 percent of companies in the 2013 sample adopted an exclusive forum provision, a sharp increase from the 14 percent of companies in the 2011 sample that had done so. All 26 companies in the 2013 sample that adopted such a provision put it in the charter, rather than the bylaws, placing the company in the strongest position should the provision need to be enforced. In each case, the courts of Delaware were designated as the

2

6

2007-2008 n=50

Source: Davis Polk & Wardwell LLP

6 100%

2009-2011 n=50

Boilermakers Local 154 Ret. Fund & Key W. Police & Fire Pension Fund v. Chevron Corp., 7220-CS, 2013 WL3810127 (Del. Ch. June 25, 2013).

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exclusive forum. Companies may soon learn, however, that at least one proxy advisory firm may recommend a “withhold” vote against the chairman of the nominating/governance committee if an exclusive forum provision is not ratified by shareholders. Figure 9

Adoption of exclusive forum provisions No

Yes

43

57%

2011-2013 n=46

14

86

Of the 46 noncontrolled companies in the 2013 sample, 33 had IPOs after the April 5, 2012, enactment of the JOBS Act. Of these 33 companies, 29 companies (88 percent) identified themselves as emerging growth companies.

2009-2011 n=50

Note: Adoption of exclusive forum provisions was not tracked in 2008 survey. Source: Davis Polk & Wardwell LLP

Employment and Compensation-Related Matters New equity compensation plan In 2013, we examined the number of companies that adopted a new equity compensation plan in connection with their IPO and found that an overwhelming number of companies (91 percent) opted to do so. Since NYSE and NASDAQ rules require shareholder approval for the adoption of equity compensation plans— which can be a burdensome process for public companies— it is not surprising that many companies adopt such plans shortly before their IPO. Employment and similar agreements In 2013, we also examined whether companies adopted one or more employment or similar agreements in connection with the IPO and found that nearly half had done so.

Emerging Growth Companies The JOBS Act of 2012 eased the IPO process and subsequent reporting and compliance obligations for “emerging growth companies” (those that had annual revenues of less than $1 billion during their most recent fiscal year). For example, emerging growth companies are not required to comply with the auditor attestation requirements of the Sarbanes-Oxley Act and can take advantage of reduced executive compensation disclosure requirements and the ability to delay adoption of newly applicable public-company accounting policies.

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An emerging growth company retains this status until the earliest of: (1) the last day of the first fiscal year during which its annual revenues reach $1 billion; (2) the last day of the fiscal year in which the fifth anniversary of its IPO occurs; (3) the date on which the company has, during the previous three-year period, issued more than $1 billion in nonconvertible debt; and (4) the date on which the company becomes a “large accelerated filer” (essentially, a company with $700 million of public equity float that has been reporting for at least one year).

Disclosure relief Nonemerging growth companies are required to provide three years of audited financial statements in the IPO prospectus, as well as five years of “selected financial data.” The JOBS Act allows emerging growth companies to provide only two years of audited financial statements, with no requirement to provide selected financial data for any prior periods. Despite this relief, only 24 percent of emerging growth companies in the 2013 sample chose to provide two years of financial statements, while the clear majority (72 percent) included three years of audited financial statements, and a handful provided even more. Similarly, only 21 percent of emerging growth companies provided the minimum two years of selected financial data. Many more emerging growth companies (76 percent) took advantage of the ability to avoid presenting a Compensation Discussion & Analysis (CD&A) in the IPO prospectus. In contrast, only 21 percent took advantage of the ability to delay adopting newly applicable public-company accounting policies. Going forward, we would not be surprised if the percentage of companies providing a CD&A declines further, as we suspect that some companies had already drafted the CD&A by the time the JOBS Act was enacted. We also expect to see a decline in the percentage of emerging growth companies that elect to delay the application of public-company accounting policies. If a significant new policy is prescribed for public companies generally, an emerging growth company that does not adopt it would present financial statements that are not fully comparable with its peer group, and equity analysts would presumably make the adjustment anyway.

Director Notes Corporate Governance Practices in US Initial Public Offerings

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Controlled Companies vs. Noncontrolled Companies The data previously discussed do not include “controlled companies� as defined under NYSE and NASDAQ listing standards. Of the top 100 US IPOs by deal size in the 2013 sample, 54 were controlled companies and therefore eligible for exemptions from some NYSE and NASDAQ governance requirements. As shown in Table 3, the governance practices at these companies can differ markedly from those at noncontrolled companies. Table 3

Corporate governance provisions of controlled vs. noncontrolled companies (2013) Controlled companies* n=54

Noncontrolled companies** n=46

Average level of board independence

41%

72%

Fully independent audit committee

30

83

Fully independent governance/ nominating committee

24

85

Fully independent compensation committee

25

89

Permit shareholder action by written consent

78

22***

Exclusive forum provision

80

57

Primary listing on NYSE

76

52

Lead director

13

28

Classified board

83

70

Separate chairman/CEO

59

48

In light of the exemption for controlled companies from majority board independence, it is no surprise that these companies had significantly lower levels of director and audit committee independence at IPO time. Controlled companies were much more likely to permit shareholder action by written consent, but this right was overwhelmingly tied to the controlling shareholder or group retaining a specified percentage of ownership. In addition, a higher proportion of controlled companies had exclusive forum provisions compared to noncontrolled companies (80 percent of controlled companies versus 57 percent of noncontrolled companies), likely with the consent of the controlling shareholder or group. In addition, the controlled companies in the 2013 sample were more likely to have a classified board and to separate the chairman and CEO roles, probably reflecting strong shareholder participation in governance.

*For one company, the independence of the audit committee was not determinable. Of the 54 controlled companies examined, 46 had a governance/nominating committee and 51 had a compensation committee. **For one company, the independence of the governance/nominating committee and of the compensation committee was not determinable. ***Of this 22 percent, 11 percent required the written consent to be unanimous, effectively rendering the right moot. Source: Davis Polk & Wardwell LLP

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About the Authors

About the Series Director

Richard J. Sandler is cohead of Davis Polk’s global corporate governance group and a leader of the firm’s global capital markets practice. He has extensive experience advising on all aspects of corporate governance and serves on the New York Stock Exchange Commission on Corporate Governance. He regularly advises on public and private securities offerings, including initial public offerings, high-yield debt securities, derivatives, venture capital and leveraged investments, spin-offs, restructurings, exchange offers, and new financial products. Sandler also serves on the Legal Advisory Committee to the Committee on Capital Markets Regulation.

Matteo Tonello is managing director of corporate leadership at The Conference Board in New York. In his role, Tonello advises members of The Conference Board on issues of corporate governance, regulatory compliance, and risk management. He regularly participates as a speaker and moderator in educational programs on governance best practices and conducts analyses and research in collaboration with leading corporations, institutional investors and professional firms. He is the author of several publications, including Corporate Governance Handbook: Legal Standards and Board Practices, the annual U.S. Directors’ Compensation and Board Practices and Institutional Investment reports, and Sustainability in the Boardrooom. Recently, he served as the co-chair of The Conference Board Expert Committee on Shareholder Activism and on the Technical Advisory Board to The Conference Board Task Force on Executive Compensation. He is a member of the Network for Sustainable Financial Markets. Prior to joining The Conference Board, he practiced corporate law at Davis Polk & Wardwell. Tonello is a graduate of Harvard Law School and the University of Bologna.

Joseph A. Hall is a member of Davis Polk’s corporate department. His practice includes advising issuers and underwriters on capital markets transactions; advising SEC-regulated entities on regulatory matters; and advising on securities, corporate, and governance matters generally. He returned to the firm in 2005 following completion of his service at the US Securities and Exchange Commission as managing executive for policy under Chairman William H. Donaldson. As a member of Chairman Donaldson’s senior management team, Hall assisted in directing the commission’s policy-making and enforcement activities.

Acknowledgments The authors would like to acknowledge Sarah Ashfaq and Denise Yablonovich, associates in Davis Polk’s corporate department, for their substantial assistance in the preparation of this article.

About Director Notes Director Notes is a series of online publications in which The Conference Board engages experts from several disciplines of business leadership, including corporate governance, risk oversight, and sustainability, in an open dialogue about topical issues of concern to member companies. The opinions expressed in this report are those of the author(s) only and do not necessarily reflect the views of The Conference Board. The Conference Board makes no representation as to the accuracy and completeness of the content. This report is not intended to provide legal advice with respect to any particular situation, and no legal or business decision should be based solely on its content.

About the Executive Editor Melissa Aguilar is a researcher in the corporate leadership department at The Conference Board in New York. Her research focuses on corporate governance and risk issues, including succession planning, enterprise risk management, and shareholder activism. Aguilar serves as executive editor of Director Notes, a bimonthly online publication published by The Conference Board for corporate board members and business executives that covers issues such as governance, risk, and sustainability. She is also the author of The Conference Board Proxy Voting Fact Sheet and co-author of CEO Succession Practices. Prior to joining The Conference Board, she reported on compliance and corporate governance issues as a contributor to Compliance Week and Bloomberg Brief Financial Regulation. Aguilar previously held a number of editorial positions at SourceMedia Inc.

About The Conference Board The Conference Board is a global, independent business membership and research association working in the public interest. Our mission is unique: to provide the world’s leading organizations with the practical knowledge they need to improve their performance and better serve society. The Conference Board is a nonadvocacy, not-for-profit entity, holding 501(c)(3) tax-exempt status in the USA.

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Director Notes

How Do Financial Markets Respond to Corporate Sustainability Disclosure? by Thomas P. Lyon

As demand for disclosure of corporate sustainability performance increases and mandatory and voluntary disclosure schemes proliferate, the impact of such disclosure on financial performance remains unclear. Established evidence shows that bad corporate environmental news is punished by the market. However, emerging evidence shows that, in some instances, superior environmental performance may also be punished by the market. Corporate sustainability reporting initiatives have grown rapidly. Mandatory programs imposed on firms by external parties include government pollution inventory programs (e.g., the US Toxics Release Inventory (TRI) and the federal carbon reporting rules), environmental performance ratings conducted by external organizations (the Dow Jones Sustainability Index, Newsweek’s Green Rankings, Greenpeace’s company scorecards, and India’s Green Ratings Program), and awards programs (e.g., the Green Company Awards presented by the China Entrepreneurs Club). Voluntary disclosure programs include corporate sustainability reports and programs like the Department of Energy’s Voluntary Greenhouse Gas Reporting Program, the CDP, and the Global Reporting Initiative.

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Despite their recent significant expansion, the effects of environmental transparency programs on business, public policy, and society remain controversial.1 Perhaps the most hotly debated question is whether transparency programs are substitutes for or complements to traditional regulatory performance requirements.2 Although this is a fascinating and important question, this Director Notes focuses more narrowly on how transparency affects business, emphasizing state-of-the-art research on how financial markets respond to sustainability information. In a nutshell, there is a great deal of research to support the notion that external environmental information disclosure affects firms’ financial market performance.


METHODOLOGY It can be difficult to establish conclusively whether firms profit from being more socially and environmentally responsible. Indeed, scholars have debated whether it “pays to be green” for years with remarkably inconclusive results. There is a broad consensus that financial and environmental performance are positively correlated, but it has been extremely difficult to separate cause and effect empirically. Indeed, over a decade ago, after reviewing literally hundreds of academic studies, Joshua Margolis and James Walsh concluded that it was unclear whether being green really pays or whether financially successful firms simply have greater latitude to indulge their managers’ whims at the expense of shareholders.a From a data perspective, the problem is that both firm-level competitive advantage and corporate sustainability tend to persist over time, making it hard to distinguish which one came first in longitudinal correlations. We begin with the premise that financial markets have powerful incentives to rapidly incorporate all available information that may affect the future returns of listed companies. When news reaches the market, share prices will quickly reflect its effect on expected future returns. Such financial “event studies” can identify how good or bad environmental news affects profitability. This research focuses on a discrete event that occurs within a narrowly defined window of time and is expected to affect shareholder value. a Joshua Daniel Margolis and James P. Walsh, People and Profits? The Search for a Link between a Company’s Social and Financial Performance (New Jersey: Lawrence Erlbaum Associates, Inc., 2001).

There is strong evidence that bad environmental news is punished by the market. More controversial is whether firms with good environmental news to share are rewarded by the market. There is some evidence that green awards can garner positive returns, as well as some evidence that a green reputation can help buffer a firm against negative news. However, there is also new evidence that, under some circumstances, apparently superior environmental performance may actually be punished by the market. Unfortunately, the channels by which information dis­ closure operates are poorly understood. As a result, we lack conclusive explanations for why superior performance does not always pay.

Mandatory Disclosure and Third-Party Ratings Several external forces— government, the media, and nongovernmental organizations (NGOs)—can compel the public disclosure of corporate information. While only the government can require companies to disclose data, the media and NGOs release their own rankings and ratings, which can also have a significant impact on stock prices.

2

Pollution inventories The first mandatory environmental disclosure program was the US TRI, which was created in 1986 and requires that all firms producing more than 25,000 pounds of toxic chemicals report their emissions to the Environmental Protection Agency (EPA). Other countries quickly followed suit, and today both Canada and Mexico maintain parallel toxic inventories. In 2008, the United States also began requiring companies to report their emissions of greenhouse gases (GHG) through the EPA’s Greenhouse Gas Reporting Program. Beginning with the 2010 reporting year, facilities that emit 25,000 metric tons or more per year of GHGs are required to submit annual reports to the EPA. The TRI has been the focus of many empirical investigations. Several papers have examined whether large emitters of toxic chemicals suffered in the stock market when information of their emissions was first released to the public in 1988, finding that the average firm with toxic releases lost $4.1 million. One of the reports also found that losses increased by $600,000 for each additional chemical reported.4 In contrast to conventional wisdom, the largest emitters of toxic chemicals did not suffer the largest financial effects from the release of public information about emissions. What matters to investors is not the level of TRI emissions per se, but the difference between the actual and the expected levels of emissions. An obvious interpretation of the results is that the largest emitters were expected to be large emitters, so the TRI provided investors with little new information about them. With regard to the surprises, however, Shameek Konar and M.A. Cohen found that the 40 firms suffering the largest negative abnormal returns on the first day of TRI information release sub­sequently improved their environmental performance (as measured by TRI releases and the amount of chemical spills) more than an industry-weighted counterpart. 5

Ratings and rankings In addition to government-mandated disclosure programs, there are numerous rankings of and awards for corporate environmental performance. One of the most prominent public ratings is the Green Rankings, which Newsweek has conducted since 2009. The first large-scale environ­ mental assessment created by a media organization in the United States, the Green Rankings evaluated the 500 largest US companies in the first year, and the findings were (naturally) disseminated widely. While the data underlying the performance ratings were high quality, they were already widely available to investors with an interest in corporate environmental responsibility.

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Thus, even with significant publicity, it was not clear a priori about whether the rankings would constitute news to the stock market itself. In fact, the ratings had a significant impact on share prices, with firms in the top 100 earning nearly 1 percent higher abnormal returns than those in the bottom 400. This represented a shift of nearly $10.8 billion in market value as a result of the ratings.6 An earlier, but narrower effort was produced in 2007 by the NGO Climate Counts, which released firm-level ratings of companies’ plans for measuring, reporting, and reducing GHG emissions. Qualitative ratings and quantitative scores were based on 22 comprehensive criteria. These assessments were highly publicized and generated significant short-run media coverage. Poorly rated firms’ market valuations fell by between 0.6 and 1.6 percent, or somewhere between $2.7 and $7.2 billion in total. However, performers rated highly received no positive market gains.7 Similar results have been found in developing countries. In 1999, India’s leading environmental NGO, the Delhibased Centre for Science and Environment (CSE) created the Green Rating Project (GRP), through which CSE evaluated the environmental performance for various industrial sectors. Poorly rated firms suffered stock market losses of up to 30 percent, a larger impact than was found in studies of the United States.8 Furthermore, poorly rated firms subsequently improved their environmental performance significantly relative to other firms.9 In addition to ratings, many organizations confer green company awards. Awards granted by credible third parties would appear to be immune from criticism that they are simply “greenwash” by self-promoting firms. (Webster’s New Millenium Dictionary of English defines greenwash as “the practice of promoting environmentally friendly programs to deflect attention from an organization’s environmentally unfriendly or less savory activities.”) However, the limited empirical evidence to date shows mixed results. Older studies found that environmental awards were greeted positively by capital markets in both the United States10 and developing countries.11 More recent work focusing on US firms found insignificant average market reactions to recognition granted by third parties for environmental performance, but negative reactions to awards from nongovernmental sources.12 Similar market skepticism has been observed in China. When the China Entrepreneurs Club presented the China Green Companies Awards, privately owned firms and firms in low-polluting industries suffered significant negative stock price effects from winning environmental awards.13

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Furthermore, the peers of the winning firms showed positive stock price returns around the date when the awards were announced, suggesting that the market viewed the award winners as having unduly high costs. These results suggest that the main incentives for firms in China to improve their environmental performance are transmitted through state ownership, and that otherwise the market actually discourages firms from greening themselves.14

The form of disclosure An emerging field of study explores how the form of environmental disclosure affects its impact. In a review of numerous disclosure schemes in Full Disclosure by Archon Fung, Mary Graham, and David Weil, the authors determined that transparency is most effective when the information disclosed is clear and standardized. They also found that disclosure is most effective when the information is relevant to users’ decisions and embedded in their decision-making processes.15 The results of a 2010 report also suggest that environmental information has more effect when it is processed into a simple and readily interpreted form.16 In their study of the Newsweek’s Green Rankings, Thomas Lyon and J. P. Shimshack found that the form of the information disclosed mattered a great deal.17 Only the aggregate 1-500 rankings mattered; more nuanced individual metrics like overall green score, environmental impact score, or environmental policy score had no independent market impact.

An Example of Effective Disclosure: Restaurant Report Cards In 1998, Los Angeles County began requiring restaurants to post in their front windows the letter grades they received from health inspections.a The letter ratings were easy for customers to see and understand, and research has found that they changed consumer demand patterns, led to improvement in restaurant health inspections, and reduced the number of hospitalizations for foodborne illnesses. Because the information was readily accessible to its users, and easy for them to integrate into their decisions, the law is considered a true success story. This requirement has also been recently replicated in New York City, San Francisco, and Louisville, Kentucky. a Los Angeles County Ordinance 97–0071 §2 (part), 1997.

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Voluntary Disclosure and the Risk of “Greenwash”

Reputation and Buffering

The effects of voluntary, as opposed to mandatory, environ­ mental disclosures are less well understood and more controversial. Corporations have a variety of motivations for disclosing environmental information, including enhancing corporate reputation, increasing sales of green products, improving relationships with regulators, allaying investor concerns, reducing political pressure for regulation, and improving public opinion. NGOs often decry corporate environmental claims as greenwash intended to unfairly bolster a dirty company’s public image. Furthermore, no academic consensus exists on whether voluntary environmental disclosures and environmental performance are positively correlated. Economic models of disclosure imply a positive relationship because firms with better performance will have more positive outcomes to disclose, and some empirical literature exists to support this view.18 In contrast, evidence also exists for an argument made by some management scholars that firms increase their voluntary environmental disclosures after an accident or other negative event to bolster their tarnished reputations.19 In light of these mixed findings, it is not surprising that many environmental advocates are distrustful of voluntary environmental disclosures and wary of greenwash.

Several scholarly papers have examined the channels potentially linking disclosure and outcomes. While there is no current consensus on which is most influential, the main mechanisms can be seen in Figure 1. Major channels may include:

The business effects of voluntary disclosure have received less empirical attention than the effects of mandatory disclosure, perhaps because of self-selection problems when analyzing the data. Indeed, these selection problems may be severe. Eun-Hee Kim and Thomas Lyon found that, on average, firms that participated in the Department of Energy’s Voluntary Greenhouse Gas Program reported reductions in carbon emissions while actually increasing their emissions substantially; firms that did not join actually decreased their emissions.20 The overall pattern of disclosures was consistent with Thomas Lyon and John Maxwell’s theory of greenwash as selective disclosure of good news while withholding bad news.21 Some research finds that corporate participation in environmental management systems or voluntary programs like the CDP or Climate Leaders is not valued by the market, and it may even meet with a negative response.22 A neutral response may occur because external parties cannot distinguish greenwash from substantive action; a negative response may occur because firms are pressured into taking action, so that what appears “voluntary” is really coerced and, therefore, should not be expected to be profitable.23

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Channels of influence

1 Input market pressures (investor and employee preferences) 2 Output market pressures (institutional and final consumers and other firms)

3 Public politics (regulatory pressures) and private politics (community pressures)

4 Managerial information Input market pressures One input market mechanism linking environmental and financial performance is investor preferences. If investors have “green” preferences, capital markets may reward those disclosed as good environmental performers and penalize those disclosed as poor environ­ mental performers. One survey found that corporate reputation may influence self-reported investor loyalty and satisfaction.24 However, financial event studies that examine how stock markets respond to environmental news are not necessarily evidence that investors prefer positive environmental performance. An alternative argument is that wealth-maximizing investors update their beliefs about how other mechanisms respond to disclosed environmental information. The number of investors with green preferences may be too small to move stock prices significantly. Figure 1

Environmental information: channels of influence INPUT MARKET PRESSURES Investor preferences

Employee preferences

THE FIRM

Managerial information

Public and private politics: community and regulatory pressure

OUTPUT MARKET PRESSURES Other firms

Final consumers

Institutional consumers

Source: Thomas P. Lyon and J. P. Shimshack, “How Does Environmental Disclosure Work? Evidence from Newsweek’s Green Companies Rankings,” Business & Society, published online August 13, 2012 (DOI: 10.1177/0007650312439701).

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Indeed, the related literature detects no significant financial market impact when small groups of investors publicly announce stock divestitures for social purposes, as other investors appear immediately willing to buy divested stocks.25 Employee preferences should also be considered as another influence. Business ethics researchers find positive associations between companies’ social responsibility ratings and students’ self-reported opinions of employment attractiveness.26 Investors may believe that publicly identified good environmental performers can attract and retain better and more loyal employees. However, if employee preferences for social responsibility drive financial outcomes on a large scale, socially oriented firms should be able to hire and retain employees at lower wages than less socially oriented firms. The empirical labor economics literature finds little evidence to support this “donated labor” hypothesis.27 Employees at socially responsible firms are paid lower observable wages on average, but the evidence to date suggests that wage differences disappear once worker, job, and basic workplace characteristics beyond corporate environmental or social performance are included in empirical models. Output market pressures Firms disclosed as good environ­ mental performers may also attract and retain customers with preferences for environmentally differentiated products or companies. In this output market channel, investors may believe that publicly identified good environmental performers may be more profitable in the future. Indeed, emerging empirical evidence indicates that environmental performance is increasingly important to firms’ institutional and business customers.28 When a major retailer like Walmart decides it can reduce waste, help the environment, and improve profitability simultaneously, the pursuit of such “win/win” outcomes can be a powerful driver of the business behavior of upstream suppliers. A related possibility is that final consumers may be a source of output market pressure. Large marketing and environmental economics literatures find that social performance influences consumers’ product perceptions, product responses, and willingness to pay.29 The rapidly growing number of “green claims” made on product packaging suggests that companies believe at least some final consumers prefer green products. Indeed, TerraChoice Group Inc. released a report in 2007 that studied the environmental claims of 1,018 products sold in “big box” retailers in the United States and Canada.30

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The report concluded that all but one of the products made claims that were demonstrably false or risked misleading consumers. A follow-up study in 2009 found an increase in products that made environmental claims, but the report also discovered that 98 percent of the 2,219 products making such claims committed one of the “sins” of greenwashing. Thus, it should be no surprise that consumers are becoming increasingly jaded about environmental claims and wary of greenwash. Public and private politics Firm-level environmental information may also affect expected firm profitability through public and private political channels. Firms that disclose good environmental performance may experience reduced pressures from regulators. A growing body of research finds that firms respond strongly to current government oversight and to the perceived threat of future government actions.31 Robert Innes and Abdoul Sam found that facilities with good environmental performance in any given period were rewarded with fewer inspections in future periods, and Christopher Decker found that firms with good environmental performance received environmental permits for new facilities more quickly than those with poor environmental performance.32 Similarly, firms with disclosed good environmental performance may experience reduced “private politics” pressures from their communities. Several studies also indicate that environmental NGOs have a significant impact on corporate environmental behavior.33 Protests, boycotts, letter writing campaigns, proxy votes, or even citizen lawsuits may become more legitimate and urgent in the presence of disclosed poor environmental performance. A final mechanism to consider that may link disclosure and financial market outcomes is the fact that environmental ratings provide information about and to managers. Environmental disclosure may inform investors about general managerial ability, as environmental performance may be seen as a proxy for overall managerial ability. In this case, investors may believe that publicly identified good environmental performers may be more profitable in the future. An alternative argument is that disclosure may inform firm managers themselves about areas for improvement. Two studies have found evidence to support this notion in Indonesia and India, respectively.34 Investors may believe that publicly identified poor environmental performers will be more profitable in the future, as the external ratings have highlighted correctable production inefficiencies.

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Lyon and Shimshack offer some intriguing and suggestive evidence on the channels through which disclosure operates.35 The fact that investors responded to the Newsweek rankings, even though much of the information was available to motivated parties ahead of time, suggests that investors were unlikely to have aligned their money with their own preferences. Rather, investors appear to align their money with those channels where they think media-generated environmental rankings might matter. Practical arguments and empirical tests fail to support employee preferences, output market pressures, and managerial information as influential channels linking the disclosure event with market beliefs. Both anecdotal and empirical evidence, however, provide evidence that private and public politics channels best explain the link between Newsweek rankings and market response. While the authors make no claim about which channels apply in other settings, their analysis provides provocative results for one prominent setting and suggests a roadmap for future research on the channels through which information exerts influence. Future work that makes progress on understanding disclosure channels will be valuable indeed.

Conclusions There has been growth in the number of studies on exactly how environmental news affects corporate financial performance. To date, the literature has been more successful in identifying situations where it is costly to be brown than situations where it pays to be green. There is solid evidence that shareholder value drops when investors learn that a firm has increased its emissions of pollutants or faces government regulatory penalties or legal liability. The evidence is mixed regarding the impact on shareholder value of receiving environmental awards or other forms of favorable publicity. Some recent work has identified situations where firms have acted in response to stakeholder pressure, and profits actually fell as a result. This appears to be especially likely when firms receive awards not granted by governments, make unverified claims about their own environmental improvements, or are pressured into taking action by external stakeholders. Finally, even when firms do not receive a direct increase in share price from their environmental investments, green efforts can still serve as a risk management tool, cushioning the firm against negative investor reaction when environmental accidents occur or when the risk of environmental regulation or litigation increases.

Endnotes 1 Tom Tietenberg, “Disclosure Strategies for Pollution Control,” Environmental and Resource Economics, April 1998, pp. 587–602; Archon Fung, M. Graham, and D. Weil, Full Disclosure: The Perils and Promise of Transparency (Cambridge: Cambridge University Press, 2007). 2 Anthony G. Heyes and J. W. Maxwell, “Private vs. Public Regulation: Political Economy of the International Environment,” Journal of Environmental Economics and Management, September 2004, pp. 978–996; Toward Sustainability: The Roles and Limitations of Certification, the Steering Committee of the State-of-Knowledge Assessment of Standards and Certification, June 2012, Washington, DC, RESOLVE, Inc. 3 Craig A. MacKinlay, “Event Studies in Economics and Finance,” Journal of Economic Literature, March 1997, pp. 13–39. 4 James T. Hamilton, “Pollution as News: Media and Stock Market Reactions to the Toxics Release Inventory Data,” Journal of Environmental Economics and Management, January 1995, pp. 98–113; Shameek Konar and M. A. Cohen, “Does the Market Value Environmental Performance?” Review of Economics and Statistics, May 2001, pp. 281–289; Madhu Khanna, W. Rose H. Quimio, and D. Bojilova, “Toxics Release Information: A Policy Tool for Environmental Protection,” Journal of Environmental Economics and Management, November 1998, pp. 243–266. 5 Konar and Cohen, “Does the Market Value Environmental Performance?” 6 Thomas P. Lyon and J. P. Shimshack, “How Does Environmental Disclosure Work? Evidence from Newsweek’s Green Companies Rankings,” Business & Society, published online August 13, 2012 (DOI: 10.1177/0007650312439701).

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7 Timothy Beatty and J. P. Shimshack, “The Impact of Climate Change Information: New Evidence from the Stock Market,” BE Journal of Economic Analysis & Policy, November 2010, pp. 1-27. 8 Shreekant Gupta and B. Goldar, “Do Stock Markets Penalize Environment-Unfriendly Behaviour? Evidence from India,” Ecological Economics, January 2005, pp. 81–95. 9 Nicholas Powers, Allen Blackman, Thomas P. Lyon, and Urvashi Narain, “Does Disclosure Reduce Pollution? Evidence from India’s Green Rating Project,” Environmental and Resource Economics, March 2011, pp. 131–155. 10 Robert D. Klassen and Curtis P. McLaughlin, “The Impact of Environmental Management on Firm Performance,” Management Science, 42, no. 8, August 1996, pp. 1,199–1,214. 11 Susmita Dasgupta, Benoit Laplante, and Nilandu Mamingi, “Pollution and Capital Markets in Developing Countries,” Journal of Environmental Economics and Management, 42, no. 3, November 2001, pp. 310–335. 12 Brian W. Jacobs, Vinod R. Singhal, and Ravi Subramanian, “An Empirical Investigation of Environmental Performance and the Market Value of the Firm,” Journal of Operations Management, 28, no. 5, September 2010, pp. 430–441. 13 Thomas Lyon, Yao Lu, Xinzheng Shi, and Qie Yin, “How Do Investors Respond to Green Company Awards in China:” Ecological Economics, 94, October 2013, pp. 1–8. 14 Lyon, Lu, Shi, and Yin, “How Do Investors Respond to Green Company Awards in China?”

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15 Fung, Graham and Weil, Full Disclosure. 16 Hyunhoe Bae, Peter Wilcoxen, and David Popp, “Information Disclosure Policy: Do State Data Processing Efforts Help More Than the Information Disclosure Itself?” Journal of Policy Analysis and Management, 29, issue 1, Winter 2010, pp. 163–182. 17 Lyon and Shimshack, “How Does Environmental Disclosure Work?” 18 Sulaiman A. Al-Tuwaijri, Theodore E. Christensen, and K. E. Hughes II, “The Relations Among Environmental Disclosure, Environmental Performance, and Economic Performance: A Simultaneous Equations Approach,” Accounting, Organizations and Society, 29, issues 5-6, July–August 2004, pp. 447–471; Peter M. Clarkson, Yue Li, Gordon. D. Richardson, and Florin P. Vasvari, “Revisiting the Relation Between Environmental Performance and Environmental Disclosure: An Empirical Analysis,” Accounting, Organizations and Society, 33, no. 4-5, May–July 2008, pp. 303–327. 19 Dennis M. Patten, “Intra-industry Environmental Disclosures in Response to the Alaskan Oil Spill: A Note on Legitimacy Theory,” Accounting, Organizations and Society, 17, Issue 5, July 1992, pp. 471–475. 20 Eun-Hee Kim and Thomas P. Lyon, “Strategic Environmental Disclosure: Evidence from the DOE’s Voluntary Greenhouse Gas Registry,” Journal of Environmental Economics and Management, 2011, 61, no. 3, pp. 311–326. 21 Thomas P. Lyon and John W. Maxwell, “Greenwash: Corporate Environmental Disclosure under Threat of Audit,” Journal of Economics & Management Strategy, 20, no. 1, Spring 2011, pp. 3–41. 22 Liyan Wang and Ying Yuan, “Effect on Stock Prices of Environment and Quality Management Certification,” Economic Science, 2004, pp. 59–71; Joaquín Cañón-de-Francia and Concepción GarcésAyerbe, “ISO 14001 Environmental Certification: A Sign Valued by the Market?” Environmental and Resource Economics, 44, no. 2, October 2009, pp. 245–262; Eun-Hee Kim and Thomas Lyon, “When Does Institutional Investor Activism Increase Shareholder Value?: The Carbon Disclosure Project,” The BE Journal of Economic Analysis & Policy, 11, no. 1, August 2011, pp. 1–27; Karen Fisher-Vanden and Karin S. Thorburn, “Voluntary Corporate Environmental Initiatives and Shareholder Wealth,” Journal of Environmental Economics and Management, 62, no. 3, November 2011, pp. 430–445. 23 Lyon and Maxwell, “Greenwash: Corporate Environmental Disclosure under Threat of Audit,” Erin M. Reid and Michael W. Toffel, “Responding to Public and Private Politics: Corporate Disclosure of Climate Change Strategies,” Strategic Management Journal, 30, no. 11, November 2009, pp. 1,157–1,178; Fisher-Vanden and Thorburn, “Voluntary Corporate Environmental Initiatives and Shareholder Wealth.” 24 Sabrina Helm, “The Role of Corporate Reputation in Determining Investor Satisfaction and Loyalty,” Corporate Reputation Review, 10, 2007, pp. 22–37. 25 Wallace N. Davidson, Dan L. Worrell, and Abuzar El-Jelly, “Influencing Managers to Change Unpopular Corporate Behavior Through Boycotts and Divestitures: A Stock Market Test,” Business & Society, 34, no. 2, August 1995, pp. 171–196. 26 Daniel B. Turban and Daniel W. Greening, “Corporate Social Performance and Organizational Attractiveness to Prospective Employees,” Academy of Management Journal, 40, no. 3, June 1997, pp. 658–672; Kristin B. Backhaus, Brett A. Stone, and Karl Heiner, “Exploring the Relationship Between Corporate Social Performance and Employer Attractiveness,” Business & Society, 41, no. 3, September 2002, pp. 292–318; and Heather Schmidt Albinger and

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Sarah J. Freeman, “Corporate Social Performance and Attractiveness as an Employer to Different Job Seeking Populations,” Journal of Business Ethics, 28, no. 3, December 2000, pp. 243–253. 27 Melissa B. Frye, Edward Nelling, and Elizabeth Webb, “Executive Compensation in Socially Responsible Firms,” Corporate Governance: An International Review, 14, no. 5, September 2006, pp. 446–455; John H. Goddeeris, “Compensating Differentials and Self-selection: An Application to Lawyers,” The Journal of Political Economy, April 1998, pp. 411–428; Laura Leete, “Whither the Nonprofit Wage Differential? Estimates From the 1990 Census,” Journal of Labor Economics, January 2001, pp. 136–170; and Christopher J. Ruhm and Carey Borkoski, “Compensation in the Nonprofit Sector,” Journal of Human Resources, 38, no. 4, Fall 2003, pp. 992–1021. 28 Michael P. Vandenbergh, “The New Wal-Mart Effect: The Role of Private Contracting in Global Governance,” UCLA Law Review, 200607, 913–970. 29 Maria Loureiro and Justus Lotade, “Do Fair Trade and Eco-labels in Coffee Wake Up the Consumer Confidence?” Ecological Economics, 53, April 2005, pp. 129–138; Brian Roe, Mario F. Teisl, Alan Levy, and Matthew Russell, “US Consumers’ Willingness to Pay for Green Electricity,” Energy Policy, 29, September 2001, pp. 917-925; Piet Eichholtz, Nils Kok, and John M. Quigley, “Doing Well by Doing Good? Green Office Buildings,” The American Economic Review, 100, no. 5, December, 2010, pp. 2,492–2,509. 30 See “The ‘Six Sins of Greenwashing,TM: A Study of Environmental Claims in North American Consumer Markets,” Terrachoice Environmental Marketing Inc., November 2007; and “The Seven Sins of GreenwashingTM,” TerraChoice Group Inc., April 2009 (http:// sinsofgreenwashing.org/). 31 Wayne B. Gray and Jay P. Shimshack, “The Effectiveness of Environmental Monitoring and Enforcement: A Review of the Empirical Evidence,” Review of Environmental Economics and Policy, May 2011, pp. 3–24. 32 Robert Innes and Abdoul G. Sam, “Voluntary Pollution Reductions and the Enforcement of Environmental Law: An Empirical Study of the 33/50 Program,” Journal of Law and Economics, May 2008, pp. 271– 296; and Christopher S. Decker, “Corporate Environmentalism and Environmental Statutory Permitting,” Journal of Law and Economics, April 2003, pp. 103–129. 33 David P. Baron and Daniel Diermeier, “Strategic Activism and Nonmarket Strategy,” Journal of Economics & Management Strategy, 16, no. 3, Fall 2007, pp. 599–634; Charles Eesley and Michael J. Lenox, “Firm Responses to Secondary Stakeholder Action,” Strategic Management Journal, 27, no. 8, August 2006, pp. 765–781; Timothy J. Feddersen and Thomas W. Gilligan, “Saints and Markets: Activists and the Supply of Credence Goods,” Journal of Economics & Management Strategy, 10, no. 1, Spring 2001, pp. 149–171; Sonam Gupta and Robert Innes, “Determinants and Impact of Private Politics,” American Agricultural Economics Association2008 Annual Meeting, July 27–29, 2008, Orlando, FL; Robert Innes, “A Theory of Consumer Boycotts Under Symmetric Information and Imperfect Competition,” The Economic Journal, 116, no. 511, April 2006, pp. 355–381; and Reid and Toffel, “Responding to Public and Private Politics.” 34 Allen Blackman, Shakeb Afsah, and Damayanti Ratunanda, “How Does Public Disclosure Work? Evidence from Indonesia,” Human Ecology Review, 11, no. 3, 2004, pp. 235–246; Powers, Blackman, Lyon, and Narain, “Does Disclosure Reduce Pollution?” 35 Lyon and Shimshack, “How Does Environmental Disclosure Work?”

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About the Author Thomas Lyon is the Dow Chemical Professor of Sustainable Science, Technology and Commerce at the University of Michigan, with appointments at the Ross School of Business and the School of Natural Resources and Environment. He also serves as associate director of research at the Erb Institute for Global Sustainable Enterprise. His research focuses on corporate environmental information disclosure, greenwash, the causes and consequences of renewable energy policy, and voluntary programs for environmental improvement. Lyon is the author of Corporate Environmentalism and Public Policy (Cambridge, UK: Cambridge University Press, 2004), and he serves on the editorial board of the Journal of Economic and Management Strategy and Journal of Regulatory Economics. His research has been published in the RAND Journal of Economics, the Journal of Law and Economics, the Journal of Public Economics, the Journal of Economics and Management Strategy, and the Journal of Law, Economics and Organizations. Lyon earned his bachelor’s degree at Princeton University and his doctorate at Stanford University.

About Director Notes Director Notes is a series of online publications in which The Conference Board engages experts from several disciplines of business leadership, including corporate governance, risk oversight, and sustainability, in an open dialogue about topical issues of concern to member companies. The opinions expressed in this report are those of the author(s) only and do not necessarily reflect the views of The Conference Board. The Conference Board makes no representation as to the accuracy and completeness of the content. This report is not intended to provide legal advice with respect to any particular situation, and no legal or business decision should be based solely on its content.

programs on governance best practices and conducts analyses and research in collaboration with leading corporations, institutional investors and professional firms. He is the author of several publications, including Corporate Governance Handbook: Legal Standards and Board Practices, the annual U.S. Directors’ Compensation and Board Practices and Institutional Investment reports, and Sustainability in the Boardrooom. Recently, he served as the co-chair of The Conference Board Expert Committee on Shareholder Activism and on the Technical Advisory Board to The Conference Board Task Force on Executive Compensation. He is a member of the Network for Sustainable Financial Markets. Prior to joining The Conference Board, he practiced corporate law at Davis Polk & Wardwell. Tonello is a graduate of Harvard Law School and the University of Bologna.

About the Executive Editor Melissa Aguilar is a researcher in the corporate leadership department at The Conference Board in New York. Her research focuses on corporate governance and risk issues, including succession planning, enterprise risk management, and shareholder activism. Aguilar serves as executive editor of Director Notes, a bimonthly online publication published by The Conference Board for corporate board members and business executives that covers issues such as governance, risk, and sustainability. She is also the author of The Conference Board Proxy Voting Fact Sheet and co-author of CEO Succession Practices. Prior to joining The Conference Board, she reported on compliance and corporate governance issues as a contributor to Compliance Week and Bloomberg Brief Financial Regulation. Aguilar previously held a number of editorial positions at SourceMedia Inc.

About The Conference Board About the Series Director Matteo Tonello is managing director of corporate leadership at The Conference Board in New York. In his role, Tonello advises members of The Conference Board on issues of corporate governance, regulatory compliance, and risk management. He regularly participates as a speaker and moderator in educational

The Conference Board is a global, independent business membership and research association working in the public interest. Our mission is unique: to provide the world’s leading organizations with the practical knowledge they need to improve their performance and better serve society. The Conference Board is a nonadvocacy, not-for-profit entity, holding 501(c)(3) tax-exempt status in the USA.

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Giving Thoughts

THE CONFERENCE BOARD INITIATIVE ON CORPORATE PHILANTHROPY

Data Collection and Analysis in Philanthropy by Gina Anderson

Philanthropists today are trying to make large-scale change, just as they did in business. Increasingly, the real focus of philanthropists is on proactively identifying and addressing the causes of problems rather than reacting to their effects. This approach seeks to include measurable outcomes, and to measure outcomes you need data. There is a surprising lack of general industry information on the philanthropic sector—data that most other sectors simply take for granted. This report looks at the value of data collection and analysis for philanthropic foundations and philanthropists, and it examines how that information could be used for more purposeful grant making. As Paula D. Johnson noted in her report Global Institu­tional Philanthropy: A Preliminary Status Report, philanthropy is growing as a sector and gaining visibility around the world.1 Private giving has an increasingly important role in addressing human suffering, promoting social justice and equitable economic growth, and strengthening and supporting a broad array of civil society goals and organizations. Yet, as a field of study, global philanthropy is in its infancy. Johnson says that while many have contributed to our understanding of global giving, it is fair to say that there are no individual or institutional experts. Reliable giving data can be found in only a limited number of countries, while globally comparable data is nonexistent, and careful analysis of philanthropic giving through a global lens is hard to find. No. GT-V1N3 APRIL 2014

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Nonetheless, philanthropic foundations are increasingly collecting and sharing data, and such efforts are increasingly recognized as a critical component of philanthropy best practice. Where the Money Goes: Private Wealth for Public Good, a 2013 report from the Centre for Social Impact, is one of the first steps in the extensive process of building a database of information on philanthropic grants from independent, family, and corporate foundations in Australia (see “Collecting and Using Grant Data in Australia” on page 3).2

This Giving Thoughts is based on Gina Anderson, Where the Money Goes: Private Wealth for Public Good, Centre for Social Impact, 2013.


The most striking impression from the report is that these foundations don’t use their data effectively and they don’t compare it with that gathered by other organizations. Most found it an issue to access their data in a ready format, and stakeholder workshops highlighted the fact that employees don’t really know how to use the data they have or how that data could be used as a benchmarking tool. Lucy Bernholz, who writes extensively on philanthropy, technology, information, and policy, has noted that most of the information that organizations collect on their work never gets shared outside of their own staff meetings.3 This, Bernholz says, is not because it’s proprietary or scandalous, but because that’s the way it was done in the pre-Internet, publish-it-once era. “If we’re going to scale any of our efforts to solve social problems,” Bernholz says, “we’ve got to make much better use of the fastest scaling tool humans have ever built: open data.”4 Given the extensive amount of detail collected by foundations, there is an excellent opportunity to make better use of data to inform not only the individual foundation’s grant-making, but also to feed into the wider philanthropic and not-for-profit sector—to help make real, positive social impact for the community benefit.

Using Data to Understand Effectiveness According to Larry McGill, vice president for research at the Foundation Center, “market intelligence” is the most important factor to improve the effectiveness of grants, including intelligence on:5

• potential constituencies; • the unmet needs among those constituencies; • mechanisms for meeting those needs; and • the work of other organizations operating in that market. To formulate this understanding, foundations need to start compiling data on the activities of other foundations, as well as on bilateral and multilateral organizations that are working on these problems or issues. When assessing their counterparts, foundations must ask:

• What are their theories of change? • What types of interventions are they engaged in? • What organizations do they work with on the ground? • How does the work of my foundation fit into this picture?

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McGill says that having access to data in each of these areas minimizes the risk of making poor giving decisions. Put another way, data give foundations their best shot at making a difference through their work. Minimizing risk, McGill says, is the only thing that foundations have any power to control.

The best use of data for philanthropy New search technology is allowing a more creative use of comparative information. By carefully building databases in a way that can be compared with other information, foundations can provide context to decision making. Using these data for predictive purposes will assist measurement and evaluation and allow for a greater understanding of social impact. Illuminating trends, gaps, and innovation will encourage foundations to build on each other’s ideas to increase impact for the benefit of the community. For example, “place” is becoming increasingly recognized as a critical element in addressing many social problems (i.e., rather than project funding, targeting philanthropy toward locations that are particularly in need of interventions). Sophisticated data visualization tools can help create geographic maps to identify gaps between needs and funding, while heat maps can be used to identify areas of unmet need.

Common Approaches to Data Collection The idea of creating more common data sets relevant to philanthropic work is becoming a central concern of philanthropy industry associations around the world. In 2011, the Foundation Center announced a six-point strategic plan that included the building of a global data platform for philanthropy as one of its main aims. The Center’s goal is to generate more, better, and deeper data; to build better systems for collecting, classifying and interpreting the data; and to provide on-demand access to it. “Philanthropy In/Sight,” the Foundation Center’s newest tool, is a web-based data visualization and interactive mapping tool designed for grant makers, policy makers, researchers, and academics—virtually anyone interested in the impact of philanthropy around the world today. It combines data on grant makers and their donations with familiar Google maps to tell the story of philanthropy.6

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The Foundation Center has also partnered with a number of organizations to improve the supply of philanthropic data.

• Worldwide Initiatives for Grantmaker Support (WINGS) This global association of grant-maker associations has released a Draft Global Philanthropy Data Charter that defines values for the collection and use of data. In particular, this charter addresses the accessibility of data, data quality, knowledge sharing and inclusiveness, distributed leadership and open architecture, and ownership, privacy, and use of data. It also addresses special considerations such as open data, public versus private data, and the standardization of data internationally.

• TechSoup Global A global community of nonprofits that advocates for the use of technology, TechSoup Global has announced a strategic alliance with the Foundation Center that will use its expertise in data management, analysis, and visualization to unlock the power of information for the social sector worldwide. The combination of TechSoup Global’s data with that possessed by the Foundation Center represents one of the largest nonprofit data sets in the world. The two organizations’ extensive and complementary networks of individuals and organizations will help efforts to provide the knowledge, training, and tools that will allow nonprofit organizations to operate more efficiently and increase their impact. The Foundation Center and TechSoup Global are also exploring opportunities to co-host events, conduct analysis of their combined data sets, and crosspollinate content with the aim of sharing knowledge and insights with wider audiences in the sector.

• William and Flora Hewlett Foundation This longstanding, California-based foundation has developed a simple database under open-source technology and licensed under the Creative Commons. The database, which is available for free, allows organizations interested in the foundation’s work to generate a snapshot of its grants at the international, national, and local levels by year and grant amount. However, the tool has limited search capability and it does not provide a sector or geographic view.

Additionally, Markets for Good, an initiative developed by the Bill & Melinda Gates Foundation, the William & Flora Hewlett Foundation, and financial firm Liquidnet, aims to improve the system for generating, sharing, and acting upon data and information in the social sector. The group’s vision is of a social sector powered by information, in which interventions are more effective and innovative, capital flows efficiently to the organizations that are having the greatest impact, and there is a dynamic culture of continuous learning and development.

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Collecting and Using Grant Data in Australia The establishment of the Australian Charities and Not-forprofits Commission (ACNC), a regulatory body tasked with enhancing public trust in the sector, has highlighted the increasing importance of transparency and accountability among Australian foundations and charities. There is also a growing interest in social impact from funders (including government), which has increased the need for evidence, as well as the need for its greater visibility. As in many other jurisdictions around the world, the lack of mandatory contributions reporting requirements in Australia makes it impossible to obtain accurate data on the philanthropic sector, let alone analyze its impact. Despite significant growth in philanthropy over the past five years, planned and structured giving, compared with individual giving and government funding, remains a comparatively small part of the nonprofit sector’s revenues.7 Nonetheless, philanthropy has a crucial strategic role to play in society through its support of seed funding, innovation, and scale and systems change, as well as its power to exert influence on issues such as impact measurement.

Using data to aid research Research must be based on a body of evidence, including a robust data set. Unfortunately, without data collection, accurate data on the Australian philanthropic and charitable sector is not available. To bridge this information gap and contribute to more effective philanthropy, the Centre for Social Impact, the University of New South Wales (UNSW) and the Asia-Pacific Centre for Social Investment and Philanthropy at Swinburne University of Technology conducted a joint program to map the grants of 12 leading philanthropic foundations (independent, family, and corporate) from 2009 to 2011. The objective of this project and Where the Money Goes: Private Wealth for Public Good, the report based on the research, was both to demonstrate the value of data collection and analysis to assist philanthropic foundations and philanthropists in more purposeful grant-making and to demonstrate how private wealth is serving the public. During the project, 4,119 philanthropic grants totaling AUD$207.3 million (approximately US$186.7 million) were analyzed by issue, sector, and funding area.

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A lack of collaboration It is worth noting that, within the data set examined, there are only a small number of co-funded projects and there appears to be little evidence of collaboration. In the few cases where foundation collaboration has occurred, the partnership seems to be based mainly on a combination of personal relationships between staff across foundations and the attitudes and personal outlooks of trustees. The impression is that each foundation chooses its own focus and deliberately develops its own independent funding program. This may in part be a result of the variety, restrictions, and/or flexibility of foundation trust deeds.8 In general, strong partnerships are built with individual recipient organizations rather than with other foundations. As the first collation of such public data of its type in Australia, Where the Money Goes is being used by foundation trustees to benchmark their efforts and gain a better understanding of the impact that their donations are having. The report is prompting discussions on the size of grants, the mission of foundations, and the strategies behind grants and in-kind support.

How data can improve grant-making For initial comparative research, Where the Money Goes used the Socio-Economic Indexes for Areas (SEIFA) scores developed by the Australian Bureau of Statistics (ABS). The ABS has developed four indexes to allow ranking of regions and provide a methodology for determining the level of social and economic well-being in each region:

• The Index of Relative Socio-Economic Disadvantage • The Index of Relative Socio-Economic Advantage and Disadvantage

Each of the four indexes summarizes different aspects of the socio-economic conditions of people living in an area, and each is based on a different set of social and economic information from the 2006 Census. The indexes provide more general measures of socio-economic status than is given by measuring, for example, income or unemployment alone. The analysis correlated total grant value and the number of grants given to recipient organizations in the fields of human services, education, and housing with the SEIFA “disadvantage” index. The results did not show a strong correlation between foundation grants and SEIFA areas of high disadvantage, suggesting that grants were not necessarily being directed to organizations in areas of high disadvantage. Fairly or unfairly, the question then is why so little money between 2009 and 2011 went directly to these areas of high need identified in 2006. Some considerations include:

• Is it because places are gentrifying and no longer need the support?

• Is it because most of the support for these areas goes via the head office of the major charities which are mostly located in and around the centre of the capital city?

• Is it because these areas lack the social capital, links and networks to approach philanthropic foundations for support?

• Is it the role of philanthropic foundations to support these communities?

Such an analysis shows the potential of data to help grant makers make smarter decisions so that their support reaches constituents who are most in need.

• The Index of Education and Occupation • The Index of Economic Resources

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Conclusion There is a well-known truism in the philanthropy sector: “If you’ve met one foundation, you’ve met one foundation.” This highlights the variety and uniqueness of individual foundations. As a result, there is a huge challenge to help these organizations become better at sharing data and information among themselves. But the benefits of them doing so—to themselves and to the sector at large—could be enormous. Jacob Harold, president and CEO of GuideStar USA, offers two basic principles for how members of the philanthropy community should perceive data:9 1 Information is meant to inform, not decide. If we (individuals, foundations, companies) ever let data offer only one explanation or one interpretation, we become robotic in our practice. Data are meant to complement intuition and stories, not to replace them.

2 Embrace many sources of data. The nonprofit sector is simply too complex for any single measure of performance, and it needs a variety of measures—from randomized controlled trials to beneficiary reviews to financial analysis—to tell the full story of social change.

Meanwhile, Foundation Center President Bradford Smith suggests the following: 1 Stop trying to be unique. 2 Stop thinking about data and communications as two separate things.

3 Start aligning your data with the outside world. 4 Start developing custom grants management systems. 5 Start going beyond the minimum reporting requirements of tax laws.

6 Start thinking about data as open.

Learning from data collection efforts The process of researching and writing the Australian report Where the Money Goes showed that the task of data collection from scratch in the philanthropic sector is enormous. The future of a useful, long-term database in Australia depends on the field being able to collect information from existing sources of data and other databases in a cost-effective manner and make it available in a user-friendly format.

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Such information could be used in the following ways:

• Philanthropists and philanthropic foundations could use the data to get a picture of where other grants are flowing and then use that information to better inform their own giving. Data could promote collaboration among funders, which would help foundations avoid duplication in their grant making and identify underserved communities/geographic regions and the hard to reach.

• Researchers could use data to better understand the role and impact of the philanthropic sector in creating social impact. For example, if philanthropy’s role is to support risk taking and innovation, then research should seek to understand how effectively the sector fulfills this role.

Unleashing existing data The types of data outlined above might already exist— they just need to be tapped. For example, Lucy Bernholz questions whether open pools of on-line grant applications to foundations (and other funding sources) could serve the dual purpose of submitting funding proposals to the foundation (their stated purpose) and creating a data source on an issue (their big data purpose).10 Bernholz has long advocated for the potential of publicly disclosing all foundation grant proposals as a means of seeing what applicants think is important and as a source of ideas, trends, and useful data. She believes the aggregate pool of on-line applications to foundations (and other funding sources) would provide some big data on current thinking, existing programs, and practices in place for making communities better. It is anticipated that this type of information will not only be useful to academic researchers but also to philanthropists, social investors, governments at all levels, and nonprofits as they grapple with how to make lasting, beneficial social impact. In 2013, World Wide Web founder Sir Tim Berners-Lee commented that governments seemed hesitant to open their data vaults because they want to know exactly what people will create from what looks like mundane data. “But that’s precisely the point,” he said. “We don’t know. That’s where innovation happens.” It may well prove similar for philanthropy.

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About the Author Gina Anderson is the Philanthropy Fellow at the Centre for Social Impact, University of New South Wales, Australia. She is Chair, Women’s Community Shelters; Director of The George Institute for Global Health and The George Institute Foundation; Advisory Board Member of the Australian Charities and Non-profits Commission (ACNC); and a Director of GDI Property Group and GDI Funds Management. From 2005–2010, Gina was Chief Executive of Philanthropy Australia, the national peak body for philanthropy and a not-for-profit membership association. Members are trusts and foundations, organizations, families and individuals who want to make a difference through their own philanthropy and to encourage others to become philanthropists.

Endnotes 1 Paula D. Johnson, Global Institutional Philanthropy: A Preliminary Status Report, Worldwide Initiatives for Grantmaker Support, 2010. 2 Gina Anderson, Where the Money Goes: Private Wealth for Public Good, Centre for Social Impact, 2013. 3 Lucy Bernholz, “Changing Our Data Defaults,” in Philanthropy 2173: The Future of Good, accessed on February 21, 2014 (philanthropy. blogspot.com/2013/03/changing-our-defaults.html). 4 Bernholz, “Changing Our Data Defaults.” 5 Larry McGill, “Data for Good,” Alliance Magazine, September 2012. 6 For more information on Philanthropy In/Sight, visit its website (http://philanthropyinsight.org/login.aspx?req=%2fDefault.aspx). 7 Contribution of the Not-for-Profit Sector, Australian Government Productivity Commission, 2010.

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8 Vanessa Meachen’s Philanthropy Australia publication A Grant Seeker’s Guide to Trusts & Foundations states that first and foremost foundations must be guided by the directions of the original benefactor(s) as expressed through the will or trust deed by which the foundation was created. It may seem at first glance that some foundations’ purposes are out of date or have little relevance to current community needs, but, under charity law, a foundation must fulfill the purposes for which it was established, unless it is unable to do so. 9 Jacob Harold, “Philanthropy and Emotion in the Age of Big Data,” Arabella Advisors, accessed on February 21, 2014 (www. arabellaadvisors.com/2012/12/11/philanthropy-and-emotion-in-theage-of-big-data/). 10 Lucy Bernholz, “Big Philanthropic Data with a Purpose,” Philanthropy 2173: The Future of Good, accessed on February 21, 2014 (philanthropy.blogspot.com/2013_03_01_archive.html).

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About Giving Thoughts

About the Executive Editor

Giving Thoughts is a public forum in which The Conference Board engages experts from the disciplines of corporate philanthropy, impact investment, and social innovation in an open dialogue about issues of concern to member companies. Subscribe for free to the Giving Thoughts report and blog at www.conference-board.org/ givingthoughts.

Alex Parkinson is a Research Associate in the Corporate Leadership division of The Conference Board. He specializes in corporate philanthropy and sustainability. Before joining The Conference Board in September 2013, Parkinson worked as a Senior Consultant in London and New York for corporate social responsibility (CSR) consultancy Context. He has advised some of the world’s leading multinationals on CSR communications and strategy development. His clients included Bloomberg, Brown-Forman, BSkyB, Burt’s Bees, Cisco, HP, International Paper, PepsiCo, Roche, Standard Chartered, Syngenta, Teva Pharmaceuticals, and Vodafone. Parkinson spent two years as a reporter and sub-editor for UK-based financial media companies VRL KnowledgeBank and Vitesse Media. He holds a BSc in Economics and International Development from the University of Bath, United Kingdom.

The opinions expressed in this report are those of the author(s) only and do not necessarily reflect the views of The Conference Board. The Conference Board makes no representation as to the accuracy and completeness of the content. This report is not intended to provide legal advice, and no legal or business decision should be based solely on its content.

About the Series Director Matteo Tonello is managing director of corporate leadership at The Conference Board in New York. In his role, Tonello advises members of The Conference Board on issues of corporate governance, shareholder activism, corporate sustainability and philanthropy. He regularly participates as a speaker and moderator in educational programs on governance best practices and conducts analyses and research in collaboration with leading corporations, institutional investors, and professional firms. He is the author of several publications, including Corporate Governance Handbook: Legal Standards and Board Practices, Sustainability in the Boardroom, and the annual U.S. Directors’ Compensation and Board Practices and Institutional Investment reports. Recently, he served as the co-chair of The Conference Board Expert Committee on Shareholder Activism and of the Technical Advisory Board to The Conference Board Task Force on Executive Compensation. He is a member of the Network for Sustainable Financial Markets and the Advisory Council to the Sustainability Accounting Standards Board (SASB). Prior to joining The Conference Board, he practiced corporate law at Davis Polk & Wardwell. Tonello is a graduate of Harvard Law School and the University of Bologna.

About The Conference Board The Conference Board is a global, independent business membership and research association working in the public interest. Our mission is unique: to provide the world’s leading organizations with the practical knowledge they need to improve their performance and better serve society. The Conference Board is a nonadvocacy, not-for-profit entity, holding 501(c)(3) tax-exempt status in the USA.

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EMERGING MARKETS VIEW

Emerging markets (EM) face a bumpy recovery road ahead, and impact on global economy in 2014 could be more significant than expected • The Conference Board projection of 3.5 percent global GDP growth in 2014 is facing some downward adjustment risk in case emerging markets growth performance continues to weaken. • Impact from US monetary tightening has already been factored into this outlook, but volatility from global political risk and EM’s own weak fundamentals will bring more uncertainty • Economic linkages among emerging economies have increased rapidly through trade and investment and driven much of the last decade’s growth – but will they continue to do so? • Competitive landscape among emerging economies will be reshaped depending on political and structural strengths and weaknesses • Emerging markets’ “catch up” with mature economies will continue, but the main players among the emerging market group may be less leading than some newcomers

Authors: Jing Sima-Friedman Jing. Sima@conference-board.org Andrew Polk Andrew.Polk@conference-board.org

Access global indicators and the latest on our economics programs: www.conferenceboard.org/economics

March 26, 2014


Mature economies continue to recover, while outlook for emerging economies remains bleak

Chart 1 Emerging markets remain at lower end of growth cycle, but seem to have troughed 6-month percent change (annual rate)

Economic recovery in mature markets continues strengthening, helped by the fading fiscal drag and still accommodative monetary policy. However, the outlook among the emerging economies as a whole remains bleak, as global manufacturing comes off its robust pace seen in the fourth quarter of last year, and most emerging economies have experienced deterioration in both exports and domestic demand in the first two months of 2014. Downside risks are on the rise among the emerging economies, and these concerns are reinforced by political uncertainty in some regions, e.g., the latest developments in Ukraine where tensions are intensifying. The Conference Board Leading Economic Index® (LEI) for several emerging markets including India, Brazil, and Mexico—some of the main players among emerging markets— suggest that their economies are not out of the woods yet (Chart 1). These leading economic indexes do show that these economies are about to turn a corner toward improving economic activity, but the six-month change in these indexes has barely made it to zero growth, and the cyclical slowdown seems to be continuing. Although the financial market stress some emerging economies experienced in January and early February has not increased, fundamental structural challenges are increasingly reflected in the emerging economies’ performance—thus the divergence

30

The Conference Board Leading Economic Indexes® 20

10

0

-10

China (Jan '14) India (Jan '14) TCB/FGV Brazil (Jan '14) Mexico (Dec '13)

-20

-30 2006

2007

2008

2009

2010

2011

2012

2013

Source: The Conference Board

in terms of growth prospects among them continues to widen.

A closer look at India, China, and Latin America India India will continue growing below its long term growth potential this year. India was fairly successful in reducing its current account deficit in the first two months of 2014, and has made initial steps toward fiscal consolidation. However, such a fiscal budget adjustment at a time of weak growth adds constraints on India’s public and infrastructure investment, and its monetary policy flexibility is limited by stubbornly high inflation. Adding to this is India’s upcoming general election in May,

The Conference Board Economics Watch: Emerging Markets View 2


which brings political uncertainty and delays major policy reforms. Nonetheless, the government is hoping a smooth election outcome will boost investor sentiment as well as lay the groundwork to jumpstart a private investment cycle in the second half of this year. Productivity growth in India, which had already slowed dramatically in 2012 to 3.1 percent (from 5.8 percent in 2011), fell to 2.4 percent in 2013, the slowest growth rate of that economy since 2002.1 The productivity slowdown happened despite a marginal decline in employment growth (from 1.8 percent in 2012 to 1.7 percent in 2013) as output declined much faster (from 5 percent in 2012 to 4.2 percent in 2013). According to provisional estimates of total factor productivity growth, the efficiency of India’s resource use in 2013 is −1.2 percent. India’s economy is going through a difficult time, as it suffers major macroeconomic challenges. The lack of reform hampers the ability of the labor market to perform better and slows the opening up of sectors for new foreign direct investment, both of which have a direct impact on productivity growth. In addition, business firms in India also face a severe lack of skilled employees, which triggers the high-skilled wage rates, thereby making businesses less competitive. India’s economy grew at 4.6 percent in 2013, slightly down from the 4.8 percent growth reached in 2012. However, it is above The Conference Board expectation of 4.2 percent for 2013. Thus the previously projected 4.4 1

The Conference Board Total Economy Database, February 2014 (http://www.conferenceboard.org/pdf_free/economics/TED3.pdf).

percent growth in 2014 will not be an improvement, but rather a further moderation in India’s growth trend. Chart 2 The February depreciation in trade-weighted yuan adds another element of uncertainty to the China outlook

Source: Haver Analytics

China In China, the economic indicators that combine January and February activity for industrial production, retail sales, and fixed-asset investment were weak across the board. Moreover, China’s manufacturing PMI dipped further into contraction territory in February, suggesting that the manufacturing sector in China will further decelerate. Another uncertainty was brought on by the sudden depreciation in the Chinese currency: between February 17 and March 3 2014 the RMB depreciated by 1.4 percent. The currency

The Conference Board Economics Watch: Emerging Markets View 3


saw one of its largest single-day drops ever, of 0.4 percent, on February 25 (Chart 2). The sudden reversal of the currency’s appreciation against the dollar took the market by surprise, and the reason for the change in direction is still not completely clear. At this juncture, the belief is that the abrupt change was an intentional move by the People’s Bank of China (PBoC). It is often said that China’s macroeconomic management tools are much weaker than common wisdom assumes. However, when it comes to the value of the RMB, the central bank does possess great power to set and maintain its preferred price. The most likely explanation of these recent movements seems to be that the offshore RMB (known as the CNH) had begun appreciating significantly faster than the onshore RMB (CNY), prompting the PBoC to intervene. The strength of the CNH seems to have occurred due to domestic corporate (largely SOEs) betting on further appreciation and arbitraging between the two markets—thus increasing offshore demand. The central bank now looks to be introducing further two-way movement of the currency to change expectations that the currency will always appreciate. Furthermore, the sudden devaluation likely triggered the unwinding of trading positions that were betting on RMB appreciation, thus re-enforcing the short-term depreciation pressure and causing volatility in CNH trading. Although the events remain fluid, for now the main takeaways are: 1. The PBoC does possess strong control over the value of the currency. This helps to reduce currency risk for companies that

benchmark profits in dollars, and stability in the currency’s value is a positive for business planning. The PBoC’s regular use of this important economic lever shows that capital account liberalization is still a long way off, for better or worse. 2. The extreme trading volatility that occurred due to a relatively small (1.4 percent) depreciation in the value of the RMB is yet another example of Chinese policymakers’ primary dilemma: current economic incentives and structures have become so entrenched that even a very slight change introduces extreme volatility (e.g., the interbank cash crunches). As such, The Conference Board expects continued bouts of volatility, particularly in China’s financial markets, throughout the rest of this year as policy adjustments are ongoing. China’s economic targets are becoming increasingly incompatible2 During China’s two most important annual policy meetings, the National People’s Congress and the Chinese People’s Political Consultative Congress, China’s leadership maintained the 7.5 percent growth target for GDP rather than reducing it to 7 percent or lower. The Conference Board China Center Chart of the Week on March 4 discussed why the 7.5 percent target will certainly preclude any reining in of credit creation and likely

2

This section is based on Andrew Polk, “The China Weekly: Your Eyes and Ears on Important Economic News of the Week,” The Conference Board China Center, March 8, 2014.

The Conference Board Economics Watch: Emerging Markets View 4


Chart 3 To achieve 7.5 percent growth in 2014, at current credit intensity, China will not be able to slow credit growth much

Sources: People’s Bank of China, National Bureau of Statistics, CEIC Database, The Conference Board

means that the reform agenda will only move forward at a glacial pace, if at all.3 It’s clear that the GDP target is paramount and leadership will aim to achieve or surpass that goal to the detriment of other aims, as this administration showed throughout 2013. However, it will almost certainly be impossible to achieve 7.5 percent growth without some sort of stimulative increase in investment and loosening of monetary policy in the second half of this year. Many economic indicators seen so far in the January-February period, despite some seasonality caused by the Chinese New Year, point to continued downward momentum 3

Andrew Polk, “Chart of the Week: Buying 7.5 percent growth – what would it take?” The Conference Board China Center, March 4, 2014.

for the economy. To arrest the downward trend, investment will have to pick up. The Chinese economy can achieve 7.5 percent growth in 2014, but it will have to do so using the same old bag of tricks that it has relied on for many years—which means a worsening of the imbalances in the economy and further reliance on credit-fuelled growth (Chart 3 and 4). From a macroeconomic standpoint, other important targets set during these policy meetings included the 2.1 percent budget deficit (compared to an actual deficit of 2 percent in 2013), 13 percent growth for M2 (actual growth was 13.6 percent in 2013), and 7.5 percent growth for trade (from an actual 7.6 percent in 2013). The final targets of note were for retail sales and fixed asset investment: the former stands at 14.5 percent (from an actual 13.1 percent growth in 2013) and the latter at 17.5 percent (from an actual 19.3 percent growth in 2013). These two targets suggest that Beijing will aim to achieve a modicum of rebalancing throughout this year, by attempting to promote consumption (for which retail sales is a proxy) growth over investment growth. Based on the current structure of the economy, it is doubtful that leadership can achieve this goal. There has yet to be substantial forward progress in any major reform area despite the new government’s statements. It’s continuing to look like leadership will rely more on rhetoric than action, and policy changes will continue to be marginal and not substantive. On the other hand, China’s most significant and immediate challenge—runaway credit growth—is taking a back seat to RMB policy now and will be

The Conference Board Economics Watch: Emerging Markets View 5


subjugated to the growth target throughout the rest of the year.

Chart 4 Without significant changes to economic structures and incentives, China’s credit addiction will go on unabated

Latin America 4,000

Prolonged structural weaknesses and lack of consistent policy response suggest previous growth projections for Latin America in 2014 may be too optimistic (Chart 5). Some of the financial stresses such as currency devaluation, sudden interest rate hike, and stock market selloffs experienced by major Latin American countries in the first two months of 2014 have stabilized, but the situation is far from improved. The longstanding structural weaknesses continue to weigh on the region’s economic performance, particularly the main Latin American economies such as Brazil and Argentina. In Brazil, concerns are growing about the deteriorating trade balance and the negative impact of the drought on food and energy prices. The drought has a direct impact on electricity prices because about 75 percent of Brazil’s electricity is generated as hydroelectric power. Economic indicators remain weak in both January and February, suggesting that the sharp improvement in the fourth quarter GDP growth is unlikely to last through the first quarter of this year. Adding to these concerns is the Brazilian government’s indecisive and inconsistent policy stance: in March the government finally announced its plans to address the financial stress of energy distribution companies caused by wholesale market electricity price hikes.

Billion RMB

3,500

3,000

Percent Growth, y-o-y, 3mma

Newly Issued TSF (low efficiency), LHS

Newly Issued TSF (baseline), LHS

Newly Issued TSF (high efficiency), LHS

Outstanding TSF Growth (high efficiency)

Outstanding TSF Growth (basline -- 7 percent GDP)

Outstanding TSF Growth (low efficiency)

Outstanding TSF Growth (high efficiency -- 7 percent GDP)

Outstanding TSF Growth (baseline)

32 28

24

2,500

20

2,000

16

1,500

12

1,000

8

500

4

0

0 2012

2013

2014

Sources: PBoC, NBS,CEIC, The Conference Board

Sources: People’s Bank of China, National Bureau of Statistics, CEIC Database, The Conference Board

However, the plan is far from straightforward— instead of an immediate increase in electricity prices for final consumers, the government decided to involve a private sector energy wholesale institution (CCEE) to pay for part of the government’s energy imbalance this year, with funds raised in financial markets. The government will add fiscal transfers from the Treasury to cover the rest. Final consumers will not be affected this year, but electricity price increases from 2015 onward will be used to pay back the resources raised by CCEE. The end result is that short-term inflation pressure will be avoided, but with no relief for long-term inflation expectations. Such policy moves avoid addressing Brazil’s long-standing imbalance of supply and demand in the energy sector, made worse by the on-going drought conditions, and raises uncertainty for Brazil’s fiscal balance sheet.

The Conference Board Economics Watch: Emerging Markets View 6


Brazil’s GDP growth picked up slightly to 2 percent in 2013, from the 1.9 percent growth in 2012. A 2.3 percent growth had been projected for this year, but unfortunately this projection is increasingly looking too optimistic. Despite somewhat stabilized inflation (for now) and currency devaluation, the underlying drivers of Brazil’s economy remain weak: exports in raw materials are likely remain sluggish this year, as China, its main export destination, is showing signs of economic slowdown. Food prices are likely to rise this year due to drought, and energy prices will follow the suit next year at the latest. Thus inflation, which has been above target for more than three years, will remain persistent and continue to weigh on domestic consumption. Rising energy prices will also further squeeze corporate profit margins, which have already been under pressure due to rapidly increasing wages. Persistent inflation, coupled with Brazil’s already fragile fiscal balance sheet, limit any monetary or fiscal stimulus that could boost short-term economic growth. Therefore, without any deep-seated reforms, a continued slowing trend in terms of Brazil’s economic growth is now expected. In Argentina, major economic indicators such as exports, auto production, and cement sales posted negative growth in the first two months of 2014, suggesting the country’s GDP growth may experience a contraction in the first quarter—the first negative growth since Argentina’s most recent recession in 2009.

Chart 5 Continued volatility and uncertainty in emerging markets bring downward revisions to 2014 global GDP projection?

*Europe includes all 27 members of the European Union (excluding Croatia) as well as Switzerland and Norway. **Other mature economies are Australia, Canada, Iceland, Israel, Hong Kong, South Korea, New Zealand, Singapore, and Taiwan Province of China. ***Southeast Europe includes Albania, Bosnia & Herzegovina, Croatia, Macedonia, Serbia & Montenegro, and Turkey. Source: Bart van Ark, The Conference Board Global Economic Outlook 2014, StraightTalk® 24, No. 1, November 2013 (https://www.conferenceboard.org/data/globaloutlook.cfm), updated February 2014.

Inflation has been running at a historical high as a result of steep currency depreciation so far in 2014, and price controls implemented earlier this year have so far proven inefficient to tackle inflation in the short term. The Argentinean government has been tightening monetary conditions in efforts to contain inflation, and posing limits on wages and pensions; both will contribute to slower economic growth ahead.

The Conference Board Economics Watch: Emerging Markets View 7


Chart 6 Long-term global trend will be slowing in mature economies, but more dramatically in emerging markets

inconsistent interventions have escalated to a level that seriously damages the government’s credibility as well as consumer and business confidence. These damages are also well reflected in Argentina’s financial markets and economic growth. The Conference Board will be monitoring Argentina’s political and economic situations closely, and will reevaluate its projection for the year accordingly. High tensions between Russia and Ukraine pose severe downside risks to both countries’ economic growth

*Europe includes all 27 members of the European Union (excluding Croatia) as well

Ukraine was already on the verge economic and financial bankruptcy leading up to February this year, after months of anti-government protests, with inflation rising to over 10 percent and the fiscal deficit exceeding US$28 billion. The Ukrainian state debt currently stands at 53 percent of GDP (or US$75 billion), In particular, the debt of national oil and gas company Naftogaz Ukrainy to creditors exceeds US$7.7 billion.

as Switzerland and Norway. **Other mature economies are Australia, Canada, Iceland, Israel, Hong Kong, South Korea, New Zealand, Singapore, and Taiwan Province of China. ***Southeast Europe includes Albania, Bosnia & Herzegovina, Croatia, Macedonia, Serbia & Montenegro, and Turkey. Source: Bart van Ark, The Conference Board Global Economic Outlook 2014, StraightTalk® 24, No. 1, November 2013 (https://www.conferenceboard.org/data/globaloutlook.cfm).

Although Argentina is not one of the “fragile five” emerging economies, its sociopolitical instability has promoted such economic consequences that make Argentina beyond “fragile.”4 Government interventions and heavy regulations are seen in the country’s financial markets, currency values, consumer and energy prices, and even recently in online consumption. These often sudden and 4

A term that is widely used to describe the five emerging economies including Turkey, Brazil, India, Indonesia, and South Africa, which are considered particularly vulnerable to an exodus of foreign capital as the prospect of higher interest rates diverts funds back to the United States in search of higher returns.

The economic crisis only deepened when the Republic of Crimea, which did not recognize the new self-proclaimed Ukrainian authorities in Kiev, signed a treaty with Russia to become its constituent member on March 18. Russia’s annexation of Crimea raises concern that Crimea will not be the end of this political crisis between Ukraine and Russia, and that Russia will impose military actions to detach the wealthier eastern cities from Ukraine.

The Conference Board Economics Watch: Emerging Markets View 8


While this political event is unfolding and changing by the hour, the risk of Russia invading into Ukraine remains high. Such invasion will surely add economic and financial stress to the already stagnant conditions in both countries, and will most likely lead to economic sanctions against Russia. On March 27th, the International Monetary Fund announced an agreement to provide up to US$18 billion in loans over two years to prevent Ukraine’s debt default. While this eases the immediate pressure on Ukraine’s nearly bankrupted financial system, the conditions attached to the loan which include energy price increase and currency devaluation, will weigh heavily on the country’s economy, as capital outflows as well as inflation pressure will intensify. Russia will not escape from risks of entering a recession either. Capital flights continue due to already-weak economic conditions and political uncertainties, resulting to significant foreign exchange reserve loses in the first two months of the year. Russia’s currency has also depreciated rapidly, making its relatively high external debt more expensive to refinance.

Special Section: The nature of emerging markets’ contribution to global growth is changing rapidly – intra-EM dynamics are also shifting  Although growth in emerging economies continues to outperform the mature ones, the rate of “catch up” will slow in the long term, due mainly to slower total factor productivity growth and slowing labor force growth (Chart 6).  The fortunes of various EM economies may diverge significantly as political and economic risks affect countries differently.  The transitions from “emerging” to “maturing” in upcoming markets have reshaped international economic relations, and particularly the patterns of regional interactions in the last decade.  In the long run, slower growth in emerging markets will intensify intra-EM competition. However, at the same time their remaining potential and increased openness will make them more important markets for each other as well as for mature countries.

Russia’s manufacturing PMI has been in contraction territory in the first two months of the year, and its output indicators in five key sectors also registered negative growth. If the political crisis escalates further, Russia will likely implement monetary tightening in order to control capital outflows and reserve losses – a move that will weigh on its already sluggish economic growth.

The Conference Board Economics Watch: Emerging Markets View 9


EMERGING MARKETS VIEW

Emerging Markets Are Slowing More Than Expected So Far in 2014, and Downward Risks to Global Economy Are Increasing • Financial conditions continue to tighten and manufacturing remains sluggish, resulting in downward pressure for emerging markets’ GDP growth in 2014 • Political instability has added to the downside risks in some emerging economies • Chinese policy makers may unveil a modest stimulus package in order to realize their growth target, but the likely result will be more volatility • Growth in energy demand has shifted toward emerging economies, which have also contributed the most to the rise in world CO2 emissions through energy inefficiency and lack of policy controls • Many emerging market governments espouse a more efficient and “clean” energy sector, but cheap and abundant coal and subsidies for fossil fuel prices are easy crutches that are difficult to remove

Authors: Jing Sima-Friedman Jing. Sima@conference-board.org Abdul Erumban Abdul.Erumban@conference-board.org

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April 26, 2014


Recovery in Mature Economies Continues at a Slower Rate, but the Recent Improvement in Emerging Economies Seems to Be Interrupted

Chart 1 Emerging markets remain at the lower end of the growth cycle, and their recent improvements seem to have been interrupted 6-month percent change (annual rate) 30

Mature economies continued to recover during the first quarter of 2014, although the rate of growth tapered somewhat due to a series of unexpected events (e.g., severe winter weather in the United States and Japan, and geopolitical tension in Eastern Europe). However, the underlying global economy as a whole seems to be on track, and we maintain our view that mature economies will likely see stronger growth in 2014. Meanwhile, downside risks to major emerging economies are on the rise. Financial stability remains the top concern, and manufacturing sectors continue to weaken due to sluggish domestic demand. Furthermore, political instability and regional tensions have added more uncertainties to the emerging economies’ near-term outlook. The leading economic indexes for India, Brazil, and Mexico suggest that the improvement from the second half of last year seems to have subsided in early 2014 (Chart 1). The sixmonth growth rates of in the indexes for these countries are struggling to return to positive territory, while the growth of The Conference Board Leading Economic Index® (LEI) for China has moderated compared to last year. All of these signs suggest that the cyclical slowdown among emerging economies will continue.

The Conference Board Leading Economic Indexes® 20

10

0

-10

China (Feb '14) India (Feb '14) TCB/FGV Brazil (Feb '14) Mexico (Jan '14)

-20

-30 2006

2007

2008

2009

2010

2011

2012

2013

Source: The Conference Board

A Closer Look at China, India, and Latin America Economic indicators show more slowing in China than expected in Q1 2014 Despite only a modest slowdown in China’s official GDP growth in the first quarter of this year, which came in at 7.4 percent year-overyear down from the 7.7 percent in Q4 2013, the underlying monthly data flow seems to suggest a much slower rate of economic growth so far this year. Industrial production for the first three months was the weakest since the last quarter of 2009, manufacturing and real estate investment both registered their lowest growth in years, and bank loan and monetary growth slowed sharply in March.

The Conference Board Economics Watch: Emerging Markets View 2


While the gap between the official GDP growth figure and underlying economic indicators remains debatable, the recent broad-based weaknesses in the data indicate that China’s economic growth is undoubtedly on a slowing trend. Moreover, China’s manufacturing Purchasing Managers’ Index (PMI) dipped further into contraction territory in March, suggesting that the manufacturing sector will likely continue decelerating. It is worth noting that the new export orders subindex actually improved in March’s PMI report, which suggests that domestic demand is the main contributor to the overall sluggish manufacturing sector. In response to the weakening economy, China’s State Council announced a series of pro-growth measures in April to support domestic demand and stabilize growth. Some of the critical measures are: Reducing taxes for small- and mediumsized enterprises (SMEs) Specifically, the threshold of companies’ taxable revenue base will be raised from its current level of 60,000 RMB/year (the new level was not specified). Shanty town renovation The government will seek to accelerate the pace of these efforts, and the China Development Bank will establish dedicated financing mechanisms for this program. Accelerate spending on railways The government will embark on new construction of 6,600 kilometers of rail in 2014 (up from 5,600 km last year) and establish a fund of 200-300 billion RMB to subsidize rail development.

These recent announcements do not appear to indicate the same level of stimulus or ramp up in infrastructure spending that occurred in Q3 2013, but rather a targeted policy of “finetuning” akin to what we saw throughout 2012. Thus, we do not expect these policies to reverse the “soft fall” in economic growth that China is undergoing. Although reducing taxes paid by SMEs will give them some breathing room in terms of liquidity, it will not ease the fundamental challenges they have faced during the last two years — subdued demand and the difficulty of access to capital to finance their investments and production. Many of the private sector SMEs have turned to “shadow banking” financing vehicles, which carry higher interest rates than traditional loans and thus contribute to high growth of private sector debt (currently about 185 percent of GDP). The tax reduction should give SMEs some extra cash to pay down their debts, but the scale of any potential “reduction” remains to be seen. Increased railway spending is also worrisome because the sector has already seen a rapid pace of investment since 2008 and has experienced several high-profile and largescale corruption cases and scandals. Although many parts of China still need further investment in transportation infrastructure, the five specified routes for current railway investment seem commercially questionable. Moreover, the sectors that the investment would support are state-owned upstream producers that are already experiencing overinvestment and overcapacity, as well as low productivity. The current debt load of the new China Railways Corporation (which came out of last year’s restructuring of the Ministry of Railways) stands at about 3 trillion yuan (or 65

The Conference Board Economics Watch: Emerging Markets View 3


percent of total assets), suggesting that more borrowing is the last thing the entity needs to undertake. Furthermore, the pronouncements around the new methods of financing for shanty-town renovation and railway investment are even more worrying. Of particular concern are the claims that financing will be more market driven because the bonds issued by China Development Bank to finance shanty-town renovation will be collected from more financial institutions than previously was the case, including new players such as Postal Saving Bank of China. Commercial banks, pension funds, and insurance companies will also be “encouraged” to participate in the bond buying. These developments do not indicate a “decisive role for markets,” but instead they do suggest a continuation (if not expansion) of state-directed credit.1 Even more recent stabilization measures have included a cut to the required reserve ratio (RRR) for some county-level banks (targeted at a small portion of the financial system, and thus not outright monetary easing), and a yet another announcement from the State Council stating its intention to offer preferential tax treatment and fiscal rebates for loans related to the rural economy (though without specificity). Going forward we expect to see a continuation of policy measures being rolled out in the

coming months on both fiscal and monetary fronts. Still, forthcoming movements on monetary policy are likely to be very gradual, and we expect outstanding credit growth to be only marginally increased, now that we have seen several months of slowing credit growth. Overall, we do not expect any large-scale monetary easing, Thus, while all these measures will help stabilize China’s economy to some extent, they will certainly not be enough to arrest the ongoing structural slowdown that China is experiencing, and likely not even impactful enough to change the cyclical trajectory. As such, our growth outlook for the year remains at 7 percent.2 However, we continue to view slower but more balanced economic growth as a positive development for China in the long term.

All eyes are on the elections in India India continues to face the challenge of high inflation coupled with slow growth dynamics, but there were early signs in the March economic indicators that the cyclical slowdown may be coming to an end. Stock prices surged in March, which shows improved business confidence and expectations of political stability for the upcoming elections.

1

Andrew Polk, The Conference Board China Center “Targeted policy measures unlikely to arrest the “soft fall”, but keep an eye on credit growth”, China Weekly, March 30, 2014.

2

The Conference Board Total Economy Database, February 2014 (hwww.conferenceboard.org/pdf_free/economics/TED3.pdf).

The Conference Board Economics Watch: Emerging Markets View 4


We are doubtful, however, that the elections, even if they result in a stable government, will dramatically improve the economy in a short period of time. India’s political and economic bottlenecks will not be overcome simply by a new central government because the new government will continue to face constraints and challenges. On top of limited room for fiscal and monetary stimulus, the long-standing structural bottlenecks will continue to weigh on India’s domestic economy. A few of the challenges influencing the environment of the election include: 

 

The lack of a majority government will pose a threat to any substantial growthenhancing reforms. The potential for a coalition of regional parties to require heavy compromises on national interests to satisfy regional or even specific community interests. Policies that are successful at the regional level might not necessarily work at the national level, given the inevitable compromises to satisfy various (and often conflicting) regional interests. Corruption and bureaucracy will remain a challenge for most parties. While major parties differ only slightly on issues like liberalizing foreign direct investment (FDI), challenges remain in infrastructure development, labor market reforms, and reducing deficits.

India’s economy grew at 4.6 percent in 2013, slightly down from the 4.8 percent growth reached in 2012. However, it is above The Conference Board expectation of 4.2 percent for 2013. The previously projected 4.4 percent

growth in 2014 will thus not be an improvement but a further moderation in India’s growth trend. Although the new government will have a long way to go to bring India’s economy to its trend growth, a smooth election and stable government will help boost business confidence and provide some lift, albeit limited, to the economy in the second half of the year. Chart 2 Downward revisions to 2014 GDP projections for EMs are increasingly likely

**Europe includes 27 members of the European Union (excluding Croatia) as well as Switzerland and Norway. **Other mature economies are Australia, Canada, Iceland, Israel, Hong Kong, South Korea, New Zealand, Singapore, and Taiwan, Province of China. ***Southeast Europe includes Albania, Bosnia and Herzegovina, Croatia, Macedonia, Serbia and Montenegro, and Turkey. Source: The Conference Board Global Economic Outlook 2014, update Policy uncertainty and weak domestic February 2014

sentiment weigh on Latin America’s economic performance despite recent improvement in financial markets Some of the causes of financial stress in the first two months of 2014 — currency devaluation, sudden interest rate hikes, and

The Conference Board Economics Watch: Emerging Markets View 5


stock market selloffs experienced by major Latin American countries — have stabilized. The financial markets in almost all major Latin American emerging economies also rebounded in March, with stock prices and currency values picking up sharply. Despite the recent rally in financial markets and some improvement in investors’ confidence for the region, policy constraints and prolonged structural weaknesses continue to cast shadows over the region’s economic performance. These weaknesses are reflected in Standard & Poor’s adverse sovereign ratings for Argentina, Brazil, and Venezuela. Prolonged structural weaknesses and the lack of consistent policy response suggest previous growth projections for Latin America in 2014 may be too optimistic (Chart 2). Long-standing structural weaknesses continue to weigh on the region’s economic performance, particularly on the main Latin American economies such as Brazil and Argentina. Mexico Industrial activity has been underperforming since early 2013, but we expect the continued recovery in the United States to lift growth in Mexico’s manufacturing sector, given its high correlation with the US manufacturing recovery and demand for Mexico’s exports. Mexico’s ongoing economic and energy-sector reform momentum and improved fiscal and current account balances will also provide sustained support to the economy. We expect Mexico’s economic growth to pick up in 2014, almost doubling its pace in 2013. Brazil Sentiment remained weak through March amid high inflation, slow growth,

deteriorating fiscal and current account deficit, a sovereign rating downgrade, and poor policy credibility. Industrial output has been sluggish in the first three months of 2014, and surveys from both the manufacturing and service sectors suggest the underlying drivers of Brazil’s economy show little signs of improvement in the coming months. Brazil’s GDP growth grew by 2 percent in 2013, and our projection of 2.3 percent growth in 2014 is increasingly looking too optimistic. Persistent inflation, coupled with Brazil’s already fragile fiscal balance sheet, will limit any monetary or fiscal stimulus that could boost short-term economic growth. Therefore, without any deepseated reforms, we are now expecting a continued slowing trend in Brazil’s economic growth. Argentina Recent economic data suggest that recessionary pressures remain high despite improvement in financial markets. Policy dynamics such as exchange rate adjustment and price restrictions play a major role in the country’s economic performance. These often sudden and inconsistent interventions have escalated to a level that has seriously damaged the government’s credibility, as well as consumer and business confidence. In recent months, though, the government has introduced some more prudent policy stances, such as fiscal and monetary policy tightening, in an effort to stabilize inflation and currency devaluation and the easing of government restrictions to help improve business confidence and investment. Nevertheless, Argentina’s economy remains fragile, and if its currency continues to depreciate and inflation continues to rise, we may see the economy slipping into contraction in the first half of 2014.

The Conference Board Economics Watch: Emerging Markets View 6


Chart 3 Emerging Asia countries have rapidly increased their energy consumption over the past two decades % Share of world primary energy consumption*, 2012

sector (Chart 5). The US shale revolution has been helping reshape the global energy market, but Middle Eastern oil will

1990

SE Asia

2000

India

2012

China Latin America Africa

Chart 4 China and India are important importers of energy, while Latin America and Africa are exporters

Middle East Japan Russia

World oil and gas exports and imports, 2012

Europe

0%

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15%

20%

25%

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35%

* Primary energy includes oil, natural gas, coal, nuclear energy, hydroelectric, and renewable energy Sources: BP Statistical Review of World Energy, June 2013. The Conference Board

300

Oil, LHS Gas (pipeline) Gas (LNG)

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Special Section: EMs Have Been Driving the Growth in Global Energy Demand and CO2 Emissions in the Last Decade, and They Will Continue to Do So in the Future In past decade, the growth of global energy demand has shifted toward EMs, which has resulted in a rapid rise in energy consumption (Chart 3). China, India, and Southeast Asia (excluding Malaysia) have become major consumers of energy and are increasingly reliant on energy imports (Chart 4). As populations grow and middle classes swell, and industrialization increases and economies grow rapidly, EMs will likely continue to drive energy demand. At the same time, EMs contribute more and more to CO2 emissions due to less efficient use of energy, the prevalence of energy subsidies, and a lack of effective pollution mitigation policies. All of this is occurring even though many EM governments have devised policies to create a more efficient and cleaner energy

-300 Middle East

Russia

Africa

Latin Canada Mexico America

India

Japan

Other Asia Pacific

China

US

Europe

Sources: BP Statistical Review of World Energy, June 2013. The Conference Board

remain vital for meeting future Asian energy demand.

Balancing economic growth and sustainability in EMs: Actions now versus in the future? Emerging markets like China and India will continue their rapidly increasing energy demands as their economies grow. These countries will become more dependent on energy imports, as well as major contributors to global CO2 emissions. They will also continue to use domestic, cheap, and abundant but “dirty” coal for electric power, which will continue the region’s contribution to rapidly rising CO2 emission levels and increased risk of climate change.

The Conference Board Economics Watch: Emerging Markets View 7

Net Imports

US

Net Exports

900


Chart 5 Primary energy regional consumption shows a small percentage of “clean� energy usage among EMs Percentage share of total primary energy consumption, 2012 100%

Renewables

90%

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60%

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30% 20% 10% 0%

US

Latin Russia Europe Middle America East

Africa

China

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Sources: BP Statistical Review of World Energy, June 2013.

Even given the current environment, some of these countries could begin taking important measures now. Possible steps include investing in lowering energy intensity to improve efficiency, scaling renewable energy sources to increase their potential exports, and developing shale gas, wherever there is the potential to become less dependent on energy imports. In addition, even though current costs would be high, EMs could start addressing CO2 emissions immediately by adopting greener growth strategies now rather than waiting for future wealth to support them.

The Conference Board Economics Watch: Emerging Markets View 8


EUROPEAN VIEW

While Europe’s Short-Term Outlook is Improving, Risks to a Sustained Recovery Persist 

Survey indicators in the Euro Area are all pointing to continued growth, signaling improvements in the short-term outlook

As the euro strengthens, export growth to large trading partners deteriorates

Declining import prices contribute to the overall low inflation rate in the Euro Area

The housing market shows mixed signals, with home prices gradually improving while residential building permits stagnate

Household debt as a share of gross disposable income has been declining since last year, signaling healthier household balance sheets

Real wages have been growing more rapidly recently, but not consistently throughout all European countries

Author: Bert Colijn Bert.Colijn@conferenceboard.org Access global indicators and the latest on our economics programs: www.conferenceboard.org/economics March 28, 2014


The Euro Area short-term outlook continues to improve as confidence returns to the economy Despite the current modest pace of the recovery, the short-term outlook for the Euro Area economy is improving, as indicated by the continuing growth of several surveys about the state of and confidence in the economy. The Economic Sentiment Indicator for the Euro Area has been growing and it is now above its long-term average. The industrial sector is held back by declining energy production, partly due to the unusually warm winter, but it is on a moderately positive trend overall. This is confirmed by the manufacturing Purchasing Managers Index for the Euro Area, which is signaling increasing expansion in the economy. A strengthening industrial sector will be important for the recovery of the overall economy and could potentially support a faster recovery in 2014.

has seen export declines since 2012, and the sustained strength of the currency is helping maintain this trend, making a turnaround in exports unlikely in the near term. The main gains in net exports have, in fact, mostly come from declines in imports over the past years, but, for a sustainable economic recovery, exports must start to improve again.

Chart 1 Euro Area exports to main trading partners are levelling off Millions of euro 3,600

24,000

Euro Area trade by partner, exports 3,200

20,000

2,800 16,000

2,400 2,000

Weak emerging markets and a strong euro are holding back Europe’s export growth One factor that is becoming more of a constraint on Europe’s recovery at the moment is the strengthening of the euro. The recent appreciation of the currency relative to its main trade partners has hurt the competitiveness of the Euro Area. As a result, together with weak performance of emerging market trade partners, exports across the globe have fallen (Chart 1). The decline has been especially strong for India and Mexico, but even larger trade partners like China and the United States have seen a stagnation of imports from the Euro Area. The appreciation of the euro is not just against the currencies of emerging markets that have recently devalued substantially, but also against the dollar and the majority of other currencies. The Euro Area

The Conference Board Economics Watch: European View

12,000

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1,200 800

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A disinflationary environment persists in Europe, but ECB intervention remains uncertain The strong euro is also negatively affecting the European economy through import prices. Import prices have been declining over the past months due to the appreciation of the currency. This trend has brought inflation down to 0.7 percent in February, which is already well below the target of

2

2014


the European Central Bank (ECB) of just below 2 percent. The continuing disinflation in the Euro Area poses a threat to the economic recovery because the relative attractiveness of saving and the expectation of lower prices in the near future offer an incentive to postpone purchases. This situation could lead to a deflationary economy similar to the one experienced by Japan since the 1990s. A deflationary spiral in the economy would be a major issue, especially in countries like Portugal, Greece, and Spain, where deflation is either already present or a near possibility in the coming months. This has increased the likelihood of the ECB intervening in the market by lowering the interest rate on main refinancing operations to zero or quantitative easing. However, given the diversity of European economic conditions, this will be a difficult operation to accomplish, and it is not a given that the ECB will actually respond to the deflationary danger in the Euro Area in the months ahead. The major risk stemming from a nonintervention is the detachment of inflation expectations from the central

Chart 2 Recovery in Euro Area home prices continues

bank target, which would endanger the credibility of the ECB should price growth declines persist.

The housing market in Europe is improving moderately, but large variations across countries persist The housing market is currently giving more positive signs about the European economy. Home prices started to show signs of cautious recovery in 2013 (Chart 2), which means that the housing market could provide some tailwinds to the European economy in 2014. The recovery remains small and geographically dispersed. Signs of a pickup in housing market activity in Germany and the United Kingdom are increasing. The Dutch, Spanish, and Italian markets, after having lost −29, −14, and −8 percent, respectively, during the years of crisis, are also starting to see signs of improvement in their markets.

Chart 3 Residential building permits remain on a downward trend Index, 2010 = 100 350

Residential Building Permits

Index, 2010 = 100

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200 100 Q3 2013 96

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Source: Eurostat The Conference Board Economics Watch: European View

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Nevertheless, the number of building permits currently being issued suggests the problems in the housing market are not over yet. The number of new permits issued is now 75 percent lower than at the peak in 2007, and the downward trend of this indicator has not started to revert yet (Chart 3). The overall housing market in Europe continues to be weak, and, while home prices are slowly starting to recover, new residential construction has not yet picked up substantially. This increase is needed to catalyze construction output in the economy of which a large part consists of construction for real estate, which has lost a sizable amount of output as a share of total GDP. All in all, the housing market will therefore remain weak, although there is concern about some parts of Europe overheating and other markets only very slowly starting to recover. Chart 4 Households deleveraging may hold back consumption for a while to come Percent rate

While household deleveraging is putting downward pressures on consumption, a recovery in real wage growth may provide some upsides The fact that households in the Euro Area have slowly started to deleverage is another factor influencing both the housing market and consumption spending. The amount of debt as a share of disposable income (Chart 4), which has been steady during the three years of the sovereign debt crisis in Europe, has started to decline somewhat. This means that people are, on average, not taking on extra debt and even paying off some of their existing debt. As household debt consists for a large part of mortgages, it seems that new mortgages are not increasing for the moment. The fact that debt is being paid off also means that the outlook for money spent on consumption will continue to be bleak, which will affect the recovery of consumption in 2014. Indeed, consumption in the Euro Area is currently on a slow recovery path, which will likely be the trend for some time to come (Chart 5).

115

Household outstanding debt to gross disposable income ratio 110 105 100 95 90 85 80 03

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The Conference Board Economics Watch: European View

13

On the other hand, the recent increase in wage growth is providing more room for consumption growth in 2014. The Euro Area saw wages and salaries grow by 1.9 percent in the fourth quarter of 2013, while inflation only grew by 0.8 percent. This increase, which is the largest rise in real wages in the Euro Area since 2009, shows some of the upside potential for consumption growth in the year ahead. The differences in wage growth between countries are quite large, as Germany (2.2 percent) is close to the Euro Area average, while Spain is at the higher end (3.7 percent). The lower nominal wage growth of 0.2 percent in France, however, has resulted in declining real wages. The general upward trend is a positive influence (especially for Spain, where wages have declined very

4


substantially over the past years) that could help the momentum of the current consumption recovery.

Chart 5 Consumption recovery will most likely continue to be slow and moderate in the next quarters Index, Q1 2005 = 100 116

Private final consumption 112

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The Conference Board Economics Watch: European View

5


US VIEW

Economy is thawing out 

Economic growth is poised for some solid gains

The housing and labor markets are the keys to this improvement

Consumer sentiment will get a boost from gains in the housing and labor markets

Consumer spending will benefit from job gains and improved sentiment setting the stage for further job growth throughout the spring and summer

The current path suggests increased business investment for the remainder of the year Consumers expect the economy to continue improving 160

Index, 1985=100

Consumer Confidence Index® 140 120 100 80 60 Author: Ken Goldstein ken.goldstein@conferenceboard.org

40

Access global indicators and the latest on our economics programs: www.conferenceboard.org/economics

20 1980

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Spring Forward or Spring Swoon? The US economy has been whipsawed by various headwinds. While some of these headwinds, like the federal government budget squabbles, have died down, severe, prolonged, and widespread winter weather slowed other economic activity (e.g., home building, consumer shopping). The question is whether the momentum was only temporarily interrupted or changed direction altogether. The most likely scenario is that we will see some catch up in economic activity this spring. Whether it is industrial activity, consumer spending (which picked up swiftly in March), or businesses building their new workforce, early signs indicate that activity is picking up after a winter interruption, an indication of strong underlying economic fundamentals. Continued improvement will depend on strong final demand to push businesses to bring on more help. Gains in employment (and possibly in wages) will lift consumer sentiment and feed consumer spending. As a result, the cycle will pick up momentum, a trend that is consistent with the latest readings from The Conference Board Leading Economic Index速 (LEI) for the United States.

Chart 1 The LEI suggests the economy should improve over the course of the next three to nine months 20

Another critical factor in this outlook is continued positive news in the labor market (Chart 2). A gain of just under 200,000 new jobs in March will not only underpin rising consumer sentiment, but

The Conference Board Economics Watch: U.S. View

The Conference Board Leading Economic Index速 (LEI) for the U.S. The Conference Board Coincident Economic Index速 (CEI) for the U.S.

15 10 5 0 -5 -10 -15 -20 -25 -30

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Note: Shaded area represents a recession. Source: The Conference Board

Chart 2 The winter made a dent in job growth, but overall net job creation seems solid 360

The latest release of The Conference Board LEI shows an annualized growth rate of more than 5 percent over the last six months (Chart 1), which reflects the momentum of the underlying economy. Indeed, if there is this much potential growth, it will also likely propel more job searching and more household formation. These two trends will further reinforce the rising trend in final demand this summer and even into the autumn months.

6-month percent change (annual rate)

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120

33.6 33.5

80

33.4

40

33.3 0 Jan 11

Jul 11

Jan 12

Jul 12

Jan 13

Source: Bureau of Labor Statistics

2

Jul 13

Jan 14


also provide the income for long-delayed furniture and appliance replacement and continued vehicle replacement. The construction industry continues to increase staffing of crews for both home building and some factory, commercial, and office construction. Outside of auto production, manufacturing remains slow, a trend that will probably continue until the big overhang of inventory is worked off. Still, all of these factors will depend on continued employment growth in the service sector, and especially in the retail sector. If consumer shopping is likely to rebound this spring, the retail sector will need more clerks to handle the increased volume. One encouraging sign was a hefty increase in core retail sales in March (Chart 3). A pickup in the average workweek is likely over the next few months, but it is less clear whether wage increases will be forthcoming. Right now, the year-over-year trend in the growth rate of real average hourly earnings of production and nonsupervisory workers is hovering at just around 1 percent (Chart 4). Steady job gains and a little bit more for wages will certainly propel consumers to start replacing worn-out furniture and appliances at a faster clip this spring. A gain in wage growth, however, would guarantee a big gain in shopping and a big cut in the overhang of inventory. However, despite steady progress, the job market remains slack, which keeps a lid on wage growth. An important development in the labor market is a positive change in labor force participation. There are currently about 10 million unemployed, actively looking for a new job. Roughly one-third have been out of work for more than six months, which means many have exhausted their unemployment checks and depleted their savings. Another 2.2 million have looked for work, found nothing, and given up. If the economy is gaining strength, it is reasonable to assume some of these “discouraged� workers will restart their job search (Chart 5). More

The Conference Board Economics Watch: U.S. View

Chart 3 Retail sales sprang forward in March 1.2 1.0

1-month percent change

Core retail sales (ex. autos, gasoline, and building materials) Mar '14

0.8 0.6 0.4 0.2 0.0 -0.2 -0.4 -0.6

Jul 12

Apr 13

Jan 14

Source: The Census Bureau

Chart 4 Slowing and low inflation means that, even with meager nominal wage gains, real wages are rising moderately 6

Percent change year over year

Avg hourly earnings: prod & nonsupervisory CPI

5 4 3 2 1 0 -1 -2 -3

Mar '14

2000

2002

2004

2006

2008

2010

Note: Shaded areas represent recessions. Source: Bureau of Labor Statistics

3

2012


important, when they find a job, the wages will help boost overall consumption and add further impetus to economic progress. How long and how far the recovery in labor market participation can go is a whole different matter. In any case, given the baby boomer retirement wave, there is no chance of a full recovery to precrisis participation rates. A recovery in housing construction is another important factor for the outlook. More job growth certainly encourages household formation and entails more demand for homes and apartments. The latest data show a construction rate of just under one million units, annualized. It is encouraging that permits to build continue to run a little faster than housing starts. Home price appreciation, mortgage rates, and even mortgage application data also point to a steadying pace.

Chart 5 Some tentative signs that lower unemployment rate might be pulling people back into the labor market 67.5

Percent

Percent

Labor force participation rates

67.0

84.5

66.5

84.0

66.0

83.5

65.5

83.0

65.0

82.5

64.5

82.0

Total (16 years and over, left side) 25-54 years (right side)

64.0

81.5

63.5

81.0

63.0 62.5

80.5 Mar '14 2000

2002

2004

2006

2008

2010

2012

Note: Shaded areas represent recessions. Source: Bureau of Labor Statistics

The most important factor that will drive this improvement is, once again, if there will be more gains in the labor market this spring and summer. Assuming a continued trend of just under 200,000 new jobs per month, our forecast calls for housing starts to move above the one million mark this spring and continue to move to an average of 1.2 million (annualized) by the fourth quarter of 2014. Consumers will be moving into new homes and apartments, and those in existing homes will be redecorating. This forecast is predicated on continued job growth and perhaps even a little uptick in wage growth. Both factors have been enough to continue to prop up consumer sentiment, as evidenced by the improvements of The Conference Board Consumer Confidence Index速 (please see the chart on the front page). Indeed, positive consumer expectations are being reinforced by continued good news on jobs. The Expectation Index, which has long been depressed, is finally at the level normally expected in the middle of a long expansion. Consumer spending is also approaching the kind

The Conference Board Economics Watch: U.S. View

85.0

4

2014

80.0


of pace one expects at this stage of the cycle. All of this could prompt a little more business investment in equipment to keep pace with rising final demand. In short, after having weathered myriad headwinds, the economy is finally approaching a growth path likely to boost sentiment and result in subsequent rounds of positive reinforcement. Although this trend has been a long time coming, all signs are suggesting that, absent another interruption, it is finally here. What could go wrong? If a strengthening labor market is the key to an improving outlook that brings the economy to 3.0 percent real GDP growth by the final quarter of 2014, the main concern becomes what could derail job growth. An interruption in the growth of consumer spending could result in less hiring than anticipated. For example, food prices could spike due to bad weather during the growing season. Or energy prices could rapidly increase under the influence of geopolitical pressures, even with lower domestic prices for natural gas and gasoline. And there is, of course, the unsteady trend in the financial markets. Investors have recently turned more cautious, which could affect consumer and/or business sentiment. For now, none of these risks carries a high probability, and a spring forward is much more likely than a spring swoon.

The Conference Board Economics Watch: U.S. View

5


The Conference Board U.S. Economic Outlook, 2013–2015 Percentage change, seasonally adjusted annual rates (except where noted) 2013

2014

Annual

Actual 2013

Forecast

Annual

IV Q Forecast

IQ

II Q

III Q

IV Q

2013

2014

2015

Real GDP

2.6

1.0

2.5

2.7

3.0

1.9

2.4

2.7

Real disposable income

0.8

1.5

2.3

2.2

2.3

0.7

2.0

2.4

CPI inflation

1.1

1.9

2.0

2.2

2.0

1.5

1.8

2.1

Real consumer spending

3.3

1.9

2.5

2.6

2.4

2.0

2.4

2.5

Light vehicle sales (mil. units) units)Units)(mil(mil. units) Housing starts (mil. units)

15.7

15.7

15.7

15.7

15.9

15.56

15.73

15.97

1.01

0.92

1.08

1.14

1.20

0.93

1.08

1.36

Residential investment

-7.9

-2.0

15.5

14.6

16.5

12.2

5.6

13.1

Real capital spending

5.7

3.7

7.1

7.3

6.3

2.7

5.5

5.8

Structures

-1.8

9.0

9.1

8.0

10.7

1.3

7.9

8.3

Equipment

10.9

2.0

7.6

8.5

6.6

3.1

5.6

5.9

Inventory change (bil. ’09$)

111.7

87.1

70.6

55.6

52.1

81.6

66.4

39.6

Real government purchases

-5.2

3.6

-0.4

0.0

0.3

-2.2

-0.2

0.1

-12.8

8.6

-1.5

-0.8

-0.5

-5.2

-1.2

-0.4

0.0

0.5

0.3

0.5

0.8

-0.2

0.5

0.5

-382.8

-410.4

-410.8

-414.4

-413.2

-412.3

-412.2

-415.7

Exports

9.5

-6.9

5.0

6.8

7.4

2.7

3.1

7.1

Imports

1.5

-1.4

4.2

6.2

6.0

1.4

2.6

6.0

2174

2151

2236

2276

2317

2102

2245

2405

Unemployment rate (%)

7.0

6.7

6.5

6.3

6.1

7.4

6.4

5.7

Federal Funds rate (%)

0.13

0.13

0.13

0.13

0.13

0.13

0.13

0.53

90-day T-bills (%)

0.06

0.05

0.06

0.06

0.06

0.06

0.06

0.74

10-yr Treasury bonds (%)

2.75

2.76

3.10

3.35

3.50

2.35

3.18

3.79

$/Euro

1.36

1.37

1.35

1.33

1.30

1.33

1.34

1.26

Yen/$

100

103

107

109

110

98

107

114

Federal State and local Net exports (bil. ’09$)

Pre-tax operating profits (bil.)

The Conference Board Economics Watch: U.S. View

6


ExecutiveAction Series

Why CEOs Need to Care about Trust in Business Capitalism depends on public trust for its legitimacy. When trust in business is low, governments and regulators act. by Donna Dabney

Why is trust building hard? Because the public will always have incomplete information, be quick to judge, have naïve assumptions, and reach illogical conclusions about the facts. There are also negative stereotypes from the press, social media, and popular culture that feed negative attitudes toward business, particularly among young people. Ignoring this trust gap will not make it go away.

Actions to Alter the Perception of a Rigged System In October 2013, The Conference Board Governance Center convened a meeting on trust in business that asked a group of thought leaders to consider the following question: “What standards for conduct beyond compliance with the law would engender trust in business and enhance the functioning of capital markets?” Participants included

No. 426 April 2014

directors of leading companies and investors, business journalists who have written books on the topic, and other interested professionals.1 They generally rejected creating another standard of conduct for business—many good ones have already been created and new standards are not needed. However, there was consensus that CEOs should:

• have their own company-specific standards; • measure compliance with the standards; • publicly report compliance and do it consistently over time; and

• have real consequences for violating standards. The assembled experts concluded that the belief that the system is rigged in favor of the powerful and the government is powerless to address the problem (except through penalties) is a critical business trust issue.


What can business leaders do to help? Suggestions from the members of the roundtable included:2

• Be visible doing something in the public interest that is not in your own self-interest.

• Adopt a personal standard of radical transparency. • Stop lobbying against things that are good for society but that may not have that great of a downside for business. Be thoughtful about what public policies you do and do not support.

• Be a good citizen and pay fair taxes—don’t push tax planning to the extreme.

• Bring back responsible owners of public companies to encourage ownership behavior by management, boards, and investors.

• Focus on employees as citizens and members of the public as well as the ultimate investors in public companies and consumers of their products.

• Be willing to be an advocate for business.

When I came out of school 30 years ago, I certainly didn’t have a view that corporate America was evil or that they were intentionally trying to do the wrong thing. But I think somehow that is more prevalent today with our young people. And it is alarming to me, because those young people are going to be buyers, decision-makers, government officials who change regulations, or certainly influence regulations, certainly voters. Shane Fleming President and CEO Cytec Industries In The Conference Board CEO Challenge® 2014 report

Why CEOs Need To Care After the accounting scandals and the collapse of the dot. com bubble, the US federal government took sweeping action to improve perceived lapses in corporate governance by, among other steps, increasing the independence of directors from management. In a similar manner, the financial crisis of 2007–2009 prompted further federal action to give investors a larger oversight role in director accountability. While some may debate the efficacy of these legislative actions, it is clear that government intervention was undertaken in a politically charged environment in which the public expected, if not demanded, that board room behavior be constrained by rules-based mandates. One unintended consequence of rules-based mandates is the tendency of those subject to complex rules to focus on the “letter of the law” and compliance as mandated instead of doing what is right in the eyes of the public. This response can cause a downward spiral in which the public continues to distrust business because it only does what is required, but not necessarily what the public deems to be “right.” These suspicions lead the government to respond with more rules-based mandates, inspiring more behavior based on compliance but not on values, which engenders more distrust (Exhibit 1).

Exhibit 1

The no-win scenario Behave to the letter of the law New letter of the law

Mistrust

New regulations

2

Executive Action  why ceos need to care about trust in business

www.conferenceboard.org


Business leaders who take actions that may be legal but wrong in the eyes of the public damage trust in business as measured by public perception. For example, the September 2013 edition of the Consumer Confidence Survey asked respondents, “Do you think it is okay for trading firms and other private parties to have access to information that may affect stock/bond/commodity prices before the general public has access, if they pay to receive this information early?”3 Ninety-five percent of respondents said no. Yet a whole industry has developed around early access to market moving information that, while it may not violate existing securities laws, is clearly seen as wrong in the eyes of the public. So how should the business community—and society at large—deal with business actions that are legal but perceived

as wrong by the public? What standards for conduct, beyond compliance with the law, would engender trust in business and enhance the functioning of capital markets? One thing is clear: Business needs to move beyond simple regulatory compliance to begin altering public perception. In 2013, The Conference Board directly confronted the issue of whether releasing market moving information ahead of its dissemination to the general public undermines trust in the market. The Conference Board examined ways it might generate revenue from its closely followed economic indexes, but quickly rejected the idea of selling early access to high-speed traders. As a nonprofit organization dedicated to improving business and society, The Conference Board decided it should not be engaging in any activity that might undermine confidence in the market.

How Bad Is the Trust Gap? Pretty Serious The twenty-first century has been a tough time for trust in business and the capital markets generally. The speculative bubble in dot-com companies burst in 2000, unmasking a lack of discipline in a bedrock institution—the stock market.a The collapse of Enron shortly followed these events. In the first few years of the new century, massive frauds by management teams were uncovered at Enron, WorldCom, and Tyco, adding to the erosion of trust in capital markets and in business leaders in particular. From early 2000 to mid-2002, the stock market lost $7 trillion in value and more than 1,000 publicly listed companies disappeared. As a result, workers were laid off and retirees of these companies were left with emptied retirement accounts.b Later in the decade, risk taking by financial institutions led to the financial crisis of 2007–2009. In 2013, economists at the

Dallas Federal Reserve estimated that the financial crisis had cost the US economy between $6 trillion and $14 trillion, the equivalent of $50,000 to $120,000 for every US household.c Given these events, it is not surprising that trust in business reached a low point in the late 2000s. Gallup has been measuring confidence in institutions since 1973, and, according to their data, confidence in big business reached an all-time low in June 2009. At that time, only 16 percent of respondents had “a great deal” or “quite a lot” of trust in business.d Today, five years after the end of the financial crisis, trust in business remains low. In the September 2013 Consumer Confidence Survey, only 4 percent of respondents stated they had more trust in US corporate management now than before the financial crisis—56 percent reported less trust and 40 percent reported no

change. The public apparently does not distinguish between corporate management and financial institutions when evaluating responses to the financial crisis: 88 percent rated US corporate management as “fair,” “poor,” or “very poor” in their responses to the financial crisis, which is about the same as the ratings for financial institutions.e The 2014 Edelman Trust Barometer confirms these results. The Edelman survey, which included 33,000 respondents in 27 countries in 2014, is one of the most widely followed reports on trust. Only 16 percent of the respondents to the 2014 Edelman survey said they trust business “a great deal.”f The results for business leaders are also low. About 80 percent of respondents do not trust business leaders to make ethical or moral decisions; tell the truth, regardless of how complex or unpopular it is; or solve social or societal issues.

a Suneela Jain, Barbara Blackford, Donna Dabney, and James D. Small, III, What is the Optimal Balance in the Relative Roles of Management, Directors, and Investors in the Governance of Public Corporations? The Conference Board, Corporate Governance White Paper 14-01. b Seth W. Feaster, “The Nation; The Incredible Shrinking Stock Market,” New York Times, July 21, 2002 (www.nytimes.com/2002/07/21/weekinreview/the-nation-theincredible-shrinking-stock-market.html). c David Luttrell, Tyler Atkinson, and Harvey Rosenblum, “Assessing the Costs and Consequences of the 2007-09 Financial Crisis and Its Aftermath,” Federal Reserve Bank of Dallas: Economic Letter, 8, 2013, p. 2. d Gallup Poll—June 1-4, 2013 (www.gallup.com/poll/1597/confidence-institutions.aspx#3). e Consumer Confidence Survey, The Conference Board, September 2013 (on file with author). f On a nine-point scale, 16 percent reflects those who responded an eight or nine. In the study, where a one meant “do not trust them at all” and a nine meant “trust them a great deal.” 2014 Edelman Trust Barometer Global Results (www.edelman.com/insights/intellectual-property/2014-edelman-trust-barometer/about-trust/ global-results/).

www.conferenceboard.org

Executive Action  why ceos need to care about trust in business

3


Not all organizations share this approach. Under a business arrangement that reportedly earned the University of Michigan $1 million per year, the University of Michigan Consumer Sentiment Index was released early to Thomson Reuters, which permitted high-speed traders to have access to the information two seconds before other clients of Thomson Reuters, who received it five minutes before the public.4 While the sale of private data under these circumstances would not violate Securities and Exchange Commission regulations as currently interpreted, New York Attorney General Eric T. Schneiderman investigated this practice and was able to reach an agreement with Thomson Reuters to eliminate the two second advantage given to high speed traders. The attorney general described his motivation to engage this issue as being driven by a concern about trust in the capital market system.5

Beyond Compliance Compliance-focused corporate behavior is not sufficient to restore public trust in business if business leaders take actions that may be legal but are viewed as wrong by the public. A clear example is the case of financial institutions using government bailout funds to pay bonuses to executives during the financial crisis. At a September 2013 Baruch College event to discuss trust in business, participants overwhelmingly agreed (89 percent) it was wrong for financial institutions to pay bonuses to executives using funds from taxpayer bailouts. In August, 2013, Henry M. Paulson, Jr. spoke about the financial crisis in light of the approaching five-year anniversary. In his remarks, he focused particularly on the bonuses paid to executives after the bailout, stating that:6 To say I was disappointed is an understatement. My view has nothing to do with legality and everything to do with what was right, and everything to do with just a colossal lack of self-awareness as to how they were viewed by the American public.

Executive Compensation and Trust In addition to concerns about excessive pay, executive compensation is entangled with one of the principal political issues of the times: how to address increasing degrees of income and wealth inequality. The largest portion of executive compensation today is stock based, which is designed to align executives with the interests of investors.7

4

Executive Action  why ceos need to care about trust in business

This objective is not incorrect, but companies may have put an undue emphasis on short-term stock performance. Aligning the interests of management with investors has been reinforced and strengthened with the requirements incorporated into law after the financial crisis that investors provide an advisory vote on executive compensation and corporations demonstrate that they pay for performance. Corporations typically demonstrate that they pay for performance by reference to stock price increases over one to three year periods because advisors to institutional investors focus on stock price performance over those periods.8 A short-term focus on stock price increases contributes to the public’s lack of trust in business because it is perceived as increasing the wealth of executives and shareholders at the expense of employees, communities, the environment, and the long term sustainability of the enterprise. John Olson, a law professor and leading compensation expert, had this to say about the relationship between trust and executive compensation in US corporations at a 2013 conference: 9 We made corporations easier to form, easier to understand, easier to invest in, better regulated, traded on markets that are better regulated and more transparent than anyone else, and that’s all good. But what has happened … is that the public is losing confidence in the integrity and the legitimacy of this incredibly creative central instrument of our capital system.

He went on to advocate that boards of directors make an effort to understand how the compensation plans they approve will be understood and received by a critical public: If we don’t get it right, if we don’t have an environment where our citizenry, not just employees, not just investors, but communities, voters, your relatives and mine, our neighbors, have confidence in America’s companies and those who manage them, if the view of the citizenry is that corporations are being managed primarily for the greed and aggrandizement of the managers, that historic social compact that created this wonderful engine of our economy is going to be broken and we’re going to see something we’ve seen in other countries. Companies that are heavily state run, regulation that is going to stifle innovation, a loss of confidence in our economic system.

For this reason, and also because criticism comes from all directions, it would be a good practice for all boards to consider how they make their decisions and how the disclosure of their decisions will be received by an average person.

www.conferenceboard.org


Voices of Experience The following profiles briefly highlight the thinking of some business leaders on trust in business.

Douglas R. Conant Conant, the former chief executive of Campbell Soup Company, is credited with moving employee engagement at that company from one of the lowest levels in the Fortune 500 to one of the highest and driving the company to become a leader in social responsibility and ethical leadership. He currently serves as chairman of Avon Products and the Kellogg Executive Leadership Institute at Northwestern University. During his participation in The Conference Board meeting on trust in business, he made the following observations: Trust is essential to workplace productivity It is difficult to get anything done in a low-trust environment—both at the internal corporate level and in interactions with regulators and other stakeholders who can significantly affect productivity and profitability. The importance of transparent communication If business leaders communicate more openly about how their business is aligned with the public interest, their business will earn societal and relational capital that will support the business when mistakes occur. Shareholder value is the dependent variable Value is created by building trust with employees, customers, creditors, suppliers, and communities, as well as the environment in which the business operates. A final piece of advice You can’t talk your way out of a situation you have behaved your way into.

Charlie Munger In a recent interview, Munger, vice chairman of Berkshire Hathaway, advocates a trust-based corporate governance system, the basic principles of which are:10 1 Hire a CEO of sound integrity and high capability who can be relied on to make decisions in the long-term interest of the business.

2 Maintain and develop a culture that encourages responsible behavior, with a system designed so that the people who make the decisions bear the consequences of those decisions.

3 A responsible culture includes conservative accounting, modest compensation (i.e., after an executive reaches a reasonable level of wealth, do not ask for all you can get), and simplified governance systems.

www.conferenceboard.org

Howard Schultz A founder of Starbucks, Schultz stepped down in 2000, only to return during the financial crisis to lead the company back from a low point in its reputational and financial performance. At that time, Starbucks was being attacked both by local businesses defending their portion of the high-end coffee market and by McDonald’s and other large chains on the low end who questioned the ethics of buying expensive coffee during a financial crisis. The company also faced challenges by conservationists concerned with Starbucks’s water use that further eroded public trust in the Starbucks business model. Schultz took actions to restore public trust in the company by focusing on its employees, a move that also came in for sharp criticism from multiple constituents. According to Schultz, “The challenge was how to preserve and enhance the integrity of the only assets we have as a company: our values, our culture and guiding principles, and the reservoir of trust with our people.”11 Schultz maintained the company’s policy of providing health care for any eligible employee who worked at least 20 hours per week because he believed that eliminating this benefit would “kill the trust in what this company stands for.”12

Rebuilding Trust under the Radar For the second consecutive year, chief executives ranked “trust in business” tenth out of 10 in The Conference Board CEO Challenge survey.13 Does this outcome mean CEOs are not concerned about trust in business? Additional research conducted by The Conference Board suggests otherwise. In follow-up interviews after the survey, CEOs confirmed that a lack of trust in business poses a threat to economic growth, both in terms of the macroeconomic outlook and in relation to their specific business. In its most extreme form, lack of trust can jeopardize a company’s very license to operate. CEOs may not view trust in business as something to be managed as a stand-alone issue, but there are indications that CEOs are working to build trust with their most important stakeholders—employees, customers, communities— through many different approaches. In other words, trust building appears to be embedded in their companies as part of their normal business practices without a lot of recognition that these activities are designed to increase trust in business.

Executive Action  why ceos need to care about trust in business

5


Trust in business is a complex topic that cuts across many different corporate functions. Human resources leaders are conducting employee engagement surveys to measure, among other things, employees’ trust in their organizations and in their management’s leadership. Customer trust is being managed with tools such as the “net promoter score,” which seeks to measure whether customers trust a business enough to recommend it to others.14 Public relations functions are changing from “propaganda departments” to a critical conduit for senior management to understand what critical stakeholders expect from the corporation and how the corporation can respond in ways that engender trust.15 It is worth noting that respondents to the CEO Challenge survey list “corporate brand and reputation” (defined as “enhancing the quality of products and processes, and ensuring accountability throughout the organization”) as a critical business issue with obvious links to trust.16 There are also a growing number of companies that have board-level committees that focus on corporate reputation and values. All of these activities are related to trust in business. Wellrun companies manage trust in business through all of these channels, which can make a difference when those businesses encounter troubled waters. As Conant describes it, “Trust in a business is like an emotional bank account with society.

If you are aligned with society, when you make a mistake the public will forgive you.”17 If a sufficient number of businesses follow this approach, it would seem correct to assume that the public’s general trust in business should improve. But is there more that can be done? Business leaders have some levers to use to improve the public’s perception of business generally, including the articulation of the purpose of their business. According to research released by The Conference Board, trust in business is undermined if business leaders appear to focus only on maximizing shareholder wealth at the expense of other stakeholders (employees, communities, and the environment).18 While the ultimate goal of a public corporation is to maximize shareholder value, it can only do so by serving the constituents who create value. There is a public perception that corporate leaders manage companies primarily to increase short-term share prices at the expense of employees, communities, and the long-term prosperity of the enterprise. Managing and communicating stakeholder considerations in company decision-making processes is just one more action that can help restore public trust in business.

Endnotes 1 Participants included Richard Cavanagh, director and non-executive chairman, BlackRock Mutual Funds; Douglas Conant, chairman, Avon; Richard Edelman, president, Edelman; Jennifer House, president, March of Dimes: R. William Ide, director, AFC Enterprises; Stephen Lamb, partner, Paul Weiss (former Vice Chancellor, Delaware Court of Chancery); Mark Leiter, chief strategy officer, Nielsen; Simon Lorne, vice chairman, Millennium Partners, director Teledyne Technologies, Inc.; Daniel Moss, executive editor for economy and international governance at Bloomberg News; Debra Perry, director, The Sanford C. Bernstein Fund, Korn/Ferry International; Clayton Rose, director, Bank of America; Henry Schacht, managing director and senior advisor, Warburg Pincus; Hedrick Smith, author of Who Stole the American Dream?; Jon Spector, president and CEO, The Conference Board; and James Stewart, New York Times “common sense” columnist and author of a number of books, including: Tangled Weds: How False Statements Are Undermining America; From Martha Stewart to Bernie Madoff. 2 There was no attempt to reach consensus on these ideas. 3 Consumer Confidence Survey, The Conference Board, September 2013, on file with the author. 4 James B. Stewart, “The Fairness of a Split-Second Advantage for Traders,” New York Times, July 12, 2013. 5 Stewart, “The Fairness of a Split-Second Advantage for Traders.” 6 Andrew Ross Sorkin, “Five Years After TARP, Misgivings on Bonuses,” Deal%Book, New York Times, (August 26, 2013). 7 Ira T. Kay, “Executive Pay at a Turning Point: Demonstrating Pay for Performance & Other Best Practices in Corporate Governance.” Available for download at http://paygovernance.com. 8 ISS, the largest proxy advisor, analyzes pay for performance over one and three year terms, weighting one year performance more heavily because it is also included in the three year performance analysis. ISS’ US Corporate Policy 2014 Updates (http://www.issgovernance.com/files/2014USPolicyUpdates. pdf) page 7 (2014).

6

Executive Action  why ceos need to care about trust in business

9 John Olson, keynote remarks, “Tackling Your 2014 Compensation Disclosures: The Proxy Disclosure Conference,” sponsored by CorporateCounsel.net and CompensationStandards.com (September 23, 2013). 10 David F. Larcker and Brian Tayan, “Corporate Governance According to Charles T. Munger,” Stanford Closer Look Series, Rock Center for Corporate Governance, Stanford University (March 3, 2014). 11 Adi Ignatius, “We Had to Own the Mistakes,” Harvard Business Review (JulyAugust 2010), p. 110. 12 Ignatius, “We Had to Own the Mistakes,” p. 112. 13 Trust in business was first introduced into the survey in 2013. Charles Mitchell, Rebecca L. Ray, and Bart van Ark, The Conference Board CEO Challenge 2014, The Conference Board, Research Report 1537, 2014. 14 “Net Promoter Score” is a customer metric developed by (and a registered trademark of) Fred Reichheld, Bain & Company, and Satmetrix. 15 Toni Muzi Falconi, James E. Grunig, Emilio Galli Zugaro, and Joao Duarte, Global Stakeholder Relationships Governance, Palgrave Macmillan (2014). 16 Mitchell, et al., The Conference Board CEO Challenge 2014. 17 Doug Conant, remarks to a meeting of The Conference Board Global Advisors Committee, September 18, 2013. 18 See Suneela Jain, Barbara Blackford, Donna Dabney, and James D. Small, III, What is the Optimal Balance in the Relative Roles of Management, Directors, and Investors in the Governance of Public Corporations? The Conference Board, Corporate Governance White Paper 14-01, note 3, page 14 and “Recommendations of the Task Force on Corporate/Investor Engagement,” The Conference Board Governance Center, March 2014, p. 8 (https://www. conference-board.org/governance/index.cfm?id=14728).

www.conferenceboard.org


About the Author

About This Report

Donna Dabney joined The Conference Board as executive director of the Governance Center in August 2012. In her current position, she leads the efforts of The Conference Board in the area of corporate governance. Prior to joining The Conference Board, Dabney was vice president, corporate secretary, and corporate governance counsel of Alcoa Inc.

The Conference Board Governance Center leads a key business initiative on trust in business for The Conference Board. As part of the initiative on trust in business, The Conference Board is creating an Institute for Sustainable Value Creation which will bring together thought leadership on trust in business, long term thinking and the critical role of intangible assets in value creation.

Dabney has extensive experience in corporate governance matters, having served as a member of management for over 15 years on the boards of Alcoa and Reynolds Metals Company. She is a recognized expert on governance issues related to executive compensation. At Reynolds, she was a member of the senior management team with oversight responsibility for the global operations of the company and served as chief mergers and acquisitions counsel and secretary to the board of directors. When Alcoa acquired Reynolds in 2000, she joined Alcoa as its secretary, assistant general counsel, and group counsel of the consumer, packaging, distribution, and construction group, where she was part of a three-member team with management responsibility for this business. As part of her work with the Alcoa board of directors, Dabney has gained experience with sustainable development in the Amazon region of Brazil.

For more information on The Conference Board Governance Center and the establishment of the Institute for Sustainable Value Creation, please contact:

Before joining Reynolds, Dabney practiced law with the Richmond, Virginia, firm of McGuireWoods LLP and served on the faculty of Old Dominion University. She is a 1980 graduate of the University of Virginia School of Law and a member of the Order of the Coif legal honorary society. She is also a member of the board of directors of American Forests, the New York advisory board of the Society of Corporate Secretaries and Governance Professionals, and a member of the faculty of the Citadel Directors Institute and of the Practicing Law Institute.

Marcel Bucsescu Assistant Director, Governance Center +1 212 339 0476 marcel.bucsescu@conferenceboard.org www.confererenceboard.org/governance

Related Resources from The Conference Board Guidelines for Engagement Research Report 1541, 2014 Recommendations of the Task Force on Corporate/ Investor Engagement Research Report 1539, 2014 What is the Optimal Balance in the Relative Roles of Management, Directors, and Investors in the Governance of Public Corporations? Corporate Governance White Paper 14-01, 2014

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ExecutiveAction Series

From a Buyer’s Market to a Seller’s Market Declining Unemployment and Evolving Labor Shortages in the United States by Gad Levanon and Ben Cheng

Despite the less-than-dramatic economic recovery underway in the United States and the likelihood of relatively slow GDP growth in the foreseeable future, demographic trends and the imminent departure from the workforce of the baby boom generation point to the emergence of a “sellers’ market” when it comes to skilled talent. Not only will this put more pressure on corporate profits, it may also restrict the national economy’s overall ability to grow and its competitiveness on the global market. Consider it the “darker side” of long-term declining unemployment. Introduction The current discussions about weakness in the job market have lost sight of how quickly unemployment is declining. The unemployment rate, now at 6.7 percent, has been declining much faster than in the previous two recoveries. During the past four years, it has declined by 3.3 percentage points despite a weak economic expansion, which suggests that the decline in unemployment is not solely due to a cyclical recovery in the economy. In fact, much of the decline in the unemployment rate is driven by departures from the labor force, including discouraged job seekers, and most notably, the massive cohorts of baby boomers entering retirement.

No. 427 May 2014

While forecasting, especially long-term forecasting, is always subject to a high degree of uncertainty, the future trajectory of unemployment in the next 15 to 20 years is largely dependent on one fact—the baby boomer generation is a much larger group of retiring workers than the generations that preceded it—and one highly predictable assumption: almost all of the baby boomers will retire by 2030. As a result, the rapid decline in the unemployment rate is likely to continue in the coming years. The Conference Board expects the unemployment rate to reach its natural rate of 5.5 percent by the end of 2015, after which wage pressures will appear nationwide followed by 15 years of massive baby boomer retirement and very slow growth in labor supply.


While it is hard to argue that the US labor market is currently tight at the national level, it is expected to become relatively tighter within two years, with a different pace of evolution depending on industries, occupations, and regions. This report will discuss when the slow growth of the labor supply is likely to become a serious problem, and what implications it will have for the United States and its economy in the next 15 years of dramatic changes in labor market conditions.

When will the labor market become tight? The unemployment rate in January 2014 was 6.7 percent (Chart 1), which is still above the average of recent decades and even higher than its peak in June 2003 after the previous recession. Currently, it is difficult to argue that the labor market is especially tight, or that it is hard to hire qualified workers in the United States as a whole. Wages, perhaps the most significant implication of a tight labor market, are still growing slowly, and labor turnover, another outcome of a tight labor market, is also well below pre-recession rates. However, as the unemployment rate continues to decline this is likely to change. So when will the US labor market become tight? That depends on two other factors. The first is whether the unemployment rate now accurately reflects the amount of slack in the labor market. The second is the rate of unemployment at which the labor market can be defined as tight. Chart 1

The unemployment rate is declining rapidly 12-month percent change in total nonfarm employment (left scale) Unemployment rate (right scale) 4

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3 2

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1 0

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-1 -2

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-3 -4 -5 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 Year

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USEFUL DEFINITIONS The labor force refers to all persons 16 or older who are either employed or unemployed and actively looking for a job. Tight labor market refers to labor market conditions in which it becomes relatively difficult for businesses to find qualified and willing job candidates. This occurs when the number of qualified job seekers is relatively small compared to the number of available job openings that employers wish to fill. It usually goes together with increased wage pressure and lower retention rates. Labor market slack is the amount of available and employable labor that is not being used. The unemployment rate, a common indicator for labor market tightness, measures the number of unemployed persons as a percent of the labor force. Unemployment is composed of three types: frictional unemployment (e.g., persisting unemployment due to temporary job transitions), structural unemployment (e.g., long-term unemployment due to shifts in the economy that impact the needs and relevance of certain job skills), and cyclical unemployment (e.g., short-term declines in aggregate demand, which in turn reduce the need for additional and/or existing labor). The natural rate of unemployment is the theoretical unemployment rate at which the economy is producing at full employment. In other words, the natural rate of unemployment is the equilibrium rate in which there are no cyclical effects, reducing the unemployment rate to its long-term frictional and structural components. The natural rate of unemployment is an important concept, since an unemployment rate that dips below the natural rate is a sign of increasing wage pressures. It is currently estimated to be 5.5 percent for the United States. Those considered not in the labor force are divided into those who want a job but are not actively looking for one (i.e., discouraged workers), and those who do not want a job, usually due to retirement, taking care of family members, disability, and enrollment in school.

Source: Bureau of Labor Statistics

2

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Does the unemployment rate now accurately reflect the amount of slack in the labor market?

Chart 2

Most of the people not in the labor force do not want a job

An often heard and repeated claim is that the rapid decline in the unemployment rate to 6.7 percent overstates how tight the labor market is, because one of the reasons the unemployment rate declined so rapidly is that many people got discouraged in finding a job, stopped looking for one, and are not considered unemployed anymore. However, the claim also asserts that they will return once the job market improves, and therefore should be considered as part of the slack in the labor market. This claim overstates how many of the workers who left the labor force will eventually return.

Not in the labor force Don’t want a job Want a job

19%

18

17

17 15

15

The main groups who are not in the labor force right now are:

• Older workers who retired • Older workers who moved to disability status • Other workers who left the labor force and claim

2

2013

to not want a job

1 Retirees and disabled, who are most likely to leave permanently, have made up most of the increase in labor force nonparticipation.

A recent study by the Federal Reserve of Philadelphia shows that close to three-quarters of the increase in nonparticipation in the labor force since the beginning of the recession is due to retirement and disability, and in the past three years, all of the increase in nonparticipation in the labor force occurred due to these two reasons.1 Theoretically, some of the current retired and disabled population may return to the workforce when labor market conditions improve. However, studies have shown that the “likelihood of those who left the labor force due to retirement or disability rejoining the labor force is small and has been largely insensitive to business cycle conditions in the past, suggesting that the decision to leave the labor force for those two reasons is more or less permanent.”2

2 Without significant increases in wages, discouraged workers are less likely to return.

Among people under 55, the majority who left the labor force claim that they do not want a job. For example, among the population aged 25 to 54, the percent of Americans

1

Shigeru Fujita, “On the Causes of Declines in the Labor Force Participation Rate,” Federal Reserve Bank of Philadelphia, February 2014.

2

Fujita, “On the Causes of Declines in the Labor Force Participation Rate.”

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7/2009 – 6/2010

2

2007

Source: Bureau of Labor Statistics

• Workers who left the labor force but do want a job The question is, why have they moved out of the labor force? Are they likely to return?

2

who were not in the labor force increased from 17.5 percent in October 2009 to about 19.3 percent in December 2013.3 Most of this increase is due to a rapidly growing number of people in this age group who respond that they do not want to work (Chart 2). Part of this rise is probably due to the stagnation in compensation levels in recent years, especially for new hires. However, some of the increase in the share of those who say that they do not want a job is due to higher school enrollment, which may not continue once labor market conditions improve.

Only a small portion of this group consists of discouraged job seekers who do want a job. People from this group are the most likely to return to the labor force in the future. In a recent study, the Congressional Budget Office (CBO) concluded that only about one percentage point of the 37 percent of the population that is currently not participating in the labor force is likely to return once labor conditions improve.4

The potential opportunity for underutilized workers to go from part-time to full-time will have a limited impact on labor market slack Another source of potential slack is the abnormally large num­ ber of workers who work part-time but want a full-time job.5 3

Those not in the labor force are defined as those who are not workers or active job-seekers.

4

Congressional Budget Office, “The Slow Recovery of the Labor Market,” February 2014.

5

This group is commonly referred to as workers working part time for economic reasons.

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In February 2014, the percentage of these underutilized workers was 4.5 percent, about 1.5 to 2 percentage points above pre-recession rates. However, the slack among this group is smaller than for those who are unemployed, especially since two-thirds of those workers already work more than 20 hours per week. Therefore, the slack per worker is much smaller among underutilized workers than those who are unemployed.

These measures include:

More than ever before, skill erosion will be a major obstacle for those who wish to return to the workforce due to historically high long-term unemployment

3 Several measures from the job openings and labor turn-

In addition to the issue of how much slack is contained among those not counted as unemployed, there are also arguments that suggest that the labor market is actually tighter than suggested by the unemployment rate because of this skill erosion. The share of long-term unemployment relative to total unemployment has been historically high in recent years. In the post-WW2 era through 2008, the share of those who were unemployed more than half a year in total unemployment averaged around 15 percent and never rose above 26 percent. After the Great Recession, this share reached 45 percent and remains high at 37 percent. Typically, employers view candidates that haven’t recently been practicing their skills as at risk for not being sufficiently qualified, thus, the historically high rate of long-term unemployment leads to a large number of job candidates that are no longer viewed as sufficiently qualified. Therefore, it may be harder to find qualified workers than would be assumed from the high unemployment rate. That may suggest that the short-term unemployment rate is a better gauge of labor market slack than the overall unemployment rate. Indeed, researchers from the Federal Reserve Bank of New York found that the “long-duration unemployed exert less influence on wages than the short-duration unemployed.”6

1 The National Federation of Independent Business’s (NFIB) measure of the percent of employers that faces difficulty filling job openings.

2 The Consumer Confidence Index® that measures the labor market differential, which is the percent saying that currently jobs are hard to get relative to those who say that jobs are plentiful.

over survey (JOLTS): a. Job openings rate b. Hire rate c. Hires to job openings ratio d. Quit rate

Overall, the labor market slack measured by these indicators is in line with the unemployment rate (Chart 3). When com­ pared to other known metrics of labor market tightness, it seems that the unemployment rate is not far off as an accurate indicator, suggesting a rapid transition in the United States toward a tighter labor market. Chart 3

The unemployment rate is in line with other measures of labor market slack

3

Normalized levels 2

1

0

-1

-2

The unemployment rate tracks well along with other known indicators of labor market tightness To assess the accuracy of the unemployment rate as a measure of labor market tightness, it may be useful to look at other measures of labor market tightness and compare their performance with the unemployment rate.

6

4

M. Henry Linder, Richard Peach, and Robert Rich, “The Long and Short of It: The Impact of Unemployment Duration on Compensation Growth,” Liberty Street Economics, The Federal Reserve Bank of New York, February 12, 2014, (http:// libertystreeteconomics.newyorkfed.org/2014/02/the-long-and-short-of-itthe-impact-of-unemployment-duration-on-compensation-growth-.html).

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01 02

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Year Unemployment rate

JOLTS – Hires rate

NFIB – Hard to fill openings

Consumer confidence – labor market differential

JOLTS – Hires to opening rate

JOLTS – Job openings rate

JOLTS – Quit rate

Sources: Bureau of Labor Statistics; NFIB; The Conference Board

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At what unemployment rate is the labor market considered “tight”?

When will unemployment rate reach its natural rate?

While there is no magic number at which a low unemploy­ ment rate all of a sudden becomes a problem, it may be useful to think of the natural rate of unemployment as a milestone. Economists define the natural rate of unemployment as the equilibrium rate in which there are no cyclical effects, reducing the unemployment rate to its long-term frictional and structural components. The natural rate gradually varies over time depending on factors underlying labor market structure such as the generosity of unemployment insurance, a mismatch between the skills of job seekers and available job openings, and demographic trends and changes in technologies of job advertising. When the unemployment rate is below its natural rate, the economy experiences wage and inflationary pressures. The Congressional Budget Office (CBO), which produces the most-cited estimates of the natural rate of unemployment, estimates that in the decade prior to the Great Recession, the natural rate stood at 5 percent. During and after the recession, the estimated natural rate increased to 5.5 percent (Chart 4), primarily due to the rise in rates of long-term unemployment. As mentioned earlier, this leads to a large number of job candidates viewed by employers as not sufficiently qualified. The rise in long-term unemployment suggests that the official unemployment rate may be underestimating the difficulty of hiring qualified workers, and wage pressures would begin at a higher unemployment rates than they previously have. Chart 4

The unemployment rate is just 1.2 percentage points above the natural rate 10

Unemployment rate

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Year Sources: Bureau of Labor Statistics, CBO

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There are several possible explanations for this rapid decline in the unemployment rate during the current weak recovery. As mentioned earlier, the retirement of the baby boomers and other types of departures from the labor force helped in reducing the unemployment rate. Another reason is that, somewhat surprisingly, job growth is quite solid despite the weak economic recovery. Employers can increase production by either adding workers or increasing the productivity of existing workers, and for a variety of reasons productivity growth has been especially weak in the past three years. From the mid-1990s until 2010, employers in the non-farm business sector increased the productivity of their workers by almost 2.5 percent per year, on average. However, during the past three years, productivity growth has been much slower, averaging only 0.8 percent per year. The flipside of this weak productivity growth is that employers have been adding jobs at a solid pace, about 180,000 jobs per month, on average. Whether or not the trend of a rapidly falling unemployment rate is likely to continue depends on GDP growth and the trajectory of productivity, retirement, and labor force participation, as well as other factors that may impact the supply of labor, such as immigration. The slow productivity growth in recent years is intensely debated by economists. It is unclear whether weak productivity growth suggests a lower trend, reflecting weaker technological change and innovation, or a temporary blip in reaction to rapid productivity gains (and accompanying job losses) realized during the recession. There is probably some credence to both explanations.

Natural rate of unemployment

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0

So when is the US unemployment rate likely to reach 5.5 percent? To answer this question, it is necessary to understand why the unemployment rate has been declining so rapidly in the past four years. During the 51 months since the peak unemployment rate of 10 percent in October 2009, the unemployment rate has declined by 3.3 percentage points. This decrease is faster than unemployment rate declines of the previous two recoveries, despite the slow growth of GDP in this recovery relative to previous recoveries.

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The rapid retirement of the baby boomers is certain to continue to put downward pressure on the unemployment rate. Regarding economic growth, The Conference Board expects GDP to grow faster during the next few years (2.5 percent per year through 2019) than during the last four years. All in all, the rapid decline in the unemployment rate is likely to continue in the coming years. The Conference Board expects the unemployment rate to reach its natural rate (5.5 percent) by the end of 2015. Executive Action  from a buyer’s market to a seller’s market

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What will happen to the US labor market after it reaches its full employment? The most important factor—and the easiest to predict—is an additional 15 years of very slow growth in labor supply. Current population projections predict that the working age population (18–64), which has been growing by only 0.3–0.4 percent per year in recent years, will continue to slow down—from 2020 to 2030 it will grow by just 0.15 to 0.25 percent (Chart 5). The Bureau of Labor Statistics projects the US labor force will grow by a mere 0.5 percent per year between 2012 and 2022. Given the additional slowdown in the working age population between 2022 and the end of that decade, the labor force will grow even more slowly, unless there is a surge in immigration. To put this into perspective, if employment grows as fast as the labor force at 0.5 percent per year, resulting in an unchanged unemployment rate, jobs would increase by a mere 50,000 per month. In recent years, employment has been growing at a rate of roughly 180,000 jobs per month. For this pace to continue, labor force participation would have to increase significantly which, as argued earlier, seems an unlikely scenario. Chart 5

Very slow growth in working age population through the end of the decade 1.2

Annual percent change

It seems that unless there is a surge in immigration, the growth of the US economy will be constrained by the growth of the labor force. The unemployment rate is likely to continue to drop, even below its natural rate. Since the 1960s, the unemployment rate never dropped below 3.8 percent. But in the next 15 years it may reach such low rates again. When the unemployment rate declines well below its natural rate, the tightness of the labor market will start to have negative implications for businesses and the economy as a whole, although some of that tightness will be offset by the return of the discouraged workers to the labor force.

Implications It will become more and more difficult to hire workers in the next couple of decades as the competition over talent intensifies. Chart 6 uses data from a National Federation of Independent Business (NFIB) survey, which gauges the difficulty of finding qualified applicants by measuring the percentage of respondents who answer that there are few or no qualified applicants for open positions. When the unemployment rate is low, businesses find it harder to find qualified workers. Compared with the aggregate unemployment rate, the NFIB measure currently suggests a tighter labor market. According to the NFIB measure, the labor market is as tight as it was in 2005, but the unemployment rate now is still much higher than in 2005, which suggests that there may be less slack in the labor market than the unemployment rate suggests.

Resident working age population (18-64 years) 1.0

Chart 6

It is becoming harder to hire qualified workers

0.8

Difficulty finding qualified workers (3-month moving average, left scale)

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Unemployment rate (right scale)

0.4 0.2 0.0

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100 90

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Year Source: Census Bureau

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Year Sources: Bureau of Labor Statistics, NFIB

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As the labor market gets tighter, compensation growth is likely to increase faster. Chart 7 shows that when the unemployment rate declines, wage growth tends to accelerate. According to the Employment Cost Index, wage growth is still unusually low in the United States. But as the labor market tightens the country is likely to experience faster wage growth, even though the pace and intensity of wage increases may differ between industries, occupations, and geographies. Even so, in the private sector, wage growth, while still low in the aggregate, has been accelerating in recent years.

Chart 7

Wage growth is slow but picking up

At the same time, more employees are likely to switch jobs when the labor market gets tighter. The BLS publishes data on the voluntary quit rate starting in December 2000 (Chart 8). The quit rate almost mirrors the unemployment rate. When unemployment is high, there are relatively few outside options for existing workers. When the unemployment rate starts to decline, quit rates increase. In 2000, the unemployment rate was the lowest it had been in the past 40 years and the quit rate was indeed higher at that point than at any time since then. In January 2014, the latest month for which quit rates are available, the unemployment rate is still well above normal, and unsurprisingly quit rates are well below normal levels. But as the unemployment rate continues to decline there are likely to be more quits and higher costs associated with replacing these employees.

ECI: Private wage and salaries, year-over-year percent change Chart 8

Unemployment rate 10

More workers are quitting their jobs

8

JOLTS quit rate (3-month moving average, left scale) Unemployment rate (right scale)

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Year Source: Bureau of Labor Statistics

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The combination of higher wage growth and additional costs related to labor turnover is likely to affect corporate profits. In fact, it is typical that in times of tight labor markets, corporate profits decline, even during periods of rapid business growth. A prime example is the late 1990s when the output of the nonfinancial corporate sector was growing rapidly, yet corporate profits were significantly down (Chart 9). This occurred because compensation, which is by far the largest expense item, grew even faster than value added (Chart 10). Having to face talent shortages and downward pressure on profits, businesses are likely to react in several ways:

• Attempt to increase productivity and hours worked

overall inflation. But it is important to note that labor costs are just one of several other factors that determine overall inflation, such as exchange rates, internal competition, and energy and commodity prices. What about the impact on overall economic growth? Businesses will do their best to meet the demand for their goods and services. But as mentioned earlier, meeting this demand will become more costly. It is likely that some operations will no longer be profitable under the new cost structure, which will limit overall production. As a result, GDP is likely to grow more slowly than if labor supply were not a constraint. As investors begin to internalize this information, they will reevaluate their forecast of future monetary policy. With an outlook of very low unemployment rates and potentially rising inflation, they may expect the Federal Reserve to tighten monetary policy faster than is currently expected. In fact, based strictly on the historical relationship between the unemployment rate, inflation, and the federal funds rate (the short term interest rate controlled by the Federal Reserve), one could argue that the federal funds rate should already be positive. However, the Federal Reserve is unlikely to raise rates in the coming months, partly because overall GDP growth remains disappointing and partly because they will also view the decline in the unemployment rate as an overstatement of the recovery in the labor market.

from their existing workers

• Intensify recruitment efforts • Provide incentives for older workers to stay in the workforce in locations and occupations where the retirement brain-drain creates shortages

• Train existing workers in potentially redundant jobs to transition into jobs that are hard to fill

• Intensify the movement of operations to cheaper areas, both within the United States and in other countries, to cut costs

As labor costs go up and profits are squeezed, part of the increased cost may be passed on to consumers by raising prices. Other things being equal, this will raise

Chart 9

Chart 10

In the late 1990s, profits were down despite strong economic growth

Because labor costs were growing faster than revenues Eight-quarter percent change, annualized

Corporate profits (left scale)

Compensation

Gross value added (right scale) 1,400

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Year Source: Bureau of Economic Analysis

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89 91 93 95 97 99 01 03 05 07 09 11 13 Year Source: Bureau of Economic Analysis

8

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A constrained labor supply is not inevitable There are a couple of factors that may partly offset the slowing labor supply. The first is the occupational distribution of the baby boomers. The damage from the retirement brain-drain would have been especially large if baby boomers were concentrated in fast-growing occupations that are especially likely to experience shortages in the coming years. For example, STEM occupations, despite being projected to grow faster than average in the next decade, may be at a relatively low risk of labor shortages because they have a very high number of young workers compared to the number of workers who are expected to leave the occupation. This is partly due to the large share of immigrants in these occupations. For example, 43 percent of medical scientists, 36 percent of computer software engineers, and 31 percent of computer hardware engineers are immigrants. Several of the occupations in which there is a large con­ centration of older workers are projected to grow slowly in the coming decade. But some of them may still suffer from labor shortages. Plant and system operators, librarians, curators, archivists, rail transportation workers, and law enforcement workers may suffer from shortages due to both high retirement rates and few new entrants. Some of these jobs fell out of fashion over the years, resulting in large number of older versus younger workers. In addition, in some of these occupations, for various reasons, the share of immigrants is very small, which limits the available labor supply. For example, among railroad conductors and yardmasters, only 3 percent of workers are immigrants. Likewise, 5 percent of detectives and criminal investigators, 5 percent of ship and boat captains and operators, and 7 percent of librarians are immigrant workers.

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In the water transportation group of occupations, the expected employment growth rate from 2012 to 2022 is only a little above average. However, the replacement rate in this group of occupations is unusually high. For example, among ship and boat captains and operators, 47 percent of the workers are expected to be replaced during the decade between 2012 and 2022. A forthcoming report from The Conference Board will investigate in great detail the impact of the retiring baby boomers on specific occupations. Second, the implications described in this report are not entirely inevitable. Policies that expand aggregate labor supply in the US economy can at least partly offset these negative implications. Faster immigration growth could limit the impact of slow labor force growth. In the lower skill segment, a large number of currently illegal immigrants would be able to legally work. And among high-skill jobs, the increase in supply of visas is likely to reduce shortages. Moreover, education and training programs can also help to fill occupational gaps where there are currently concentrations of older workers. Finally, any policy that contributes to faster productivity growth in the future could also mitigate the effects of slow growth in the labor force.

Conclusion Through the end of the next decade, the United States will experience an unprecedented slow growth in labor supply, with potentially significant implications for employers, workers, and the economy as a whole. The impact is likely to vary significantly across industries, types of jobs, and geographies. Future research by The Conference Board will take an in-depth look at the types of jobs that are most at risk to experience labor shortages.

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About the Authors Gad Levanon is director of macroeconomic research at The Conference Board, where he also leads the labor markets program. He also serves on The Demand Institute™ leadership team. Levanon created The Conference Board Employment Trends Index™, a widely used measure that fills the need for a leading index of employment. His research focuses on trends in U.S. and global labor markets, consumer trends, and forecasting using economic indicators. Levanon is the principal writer of The Conference Board Labor Markets in Review™, a quarterly publication that documents the main trends in labor markets across the globe. He also writes a popular blog on labor markets for Human Capital Exchange™. In addition to writing reports for The Conference Board, he has published extensively in academic and professional journals. Before coming to The Conference Board, Levanon worked at the Israeli Central Bank where he participated in the analysis of financial markets and monetary policy.

Ben Cheng is an associate economist in the economics department at The Conference Board. He received his undergraduate degree in economics with honors and mathematics at New York University. Ben has worked on a variety of research projects involving productivity and labor market topics, including the effect of ICT on the geographic diffusion of occupations and industries, the relationship between firm size and workforce adjustments during business cycles, and determinants leading to retirement postponement in the United States. In addition, he produces The Conference Board Total Economy Database, a global productivity database providing growth accounting and internationally comparable data for analysis on competitiveness and long-term growth.

Levanon received his PhD in economics from Princeton University, and he holds undergraduate and master’s degrees from Tel Aviv University in Israel. Follow Gad on his twitter @GadLevanon

For more information on this report, please contact: Carol Courter at +1 212 339 0232 or carol.courter@conferenceboard.org THE CONFERENCE BOARD, INC. | WWW.CONFERENCEBOARD.ORG AMERICAS | + 1 212 759 0900 | CUSTOMER.SERVICE@CONFERENCEBOARD.ORG ASIA | + 65 6325 3121 | SERVICE.AP@CONFERENCEBOARD.ORG EUROPE, MIDDLE EAST, AFRICA | + 32 2 675 54 05 | BRUSSELS@CONFERENCEBOARD.ORG THE CONFERENCE BOARD OF CANADA | + 1 613 526 3280 | WWW.CONFERENCEBOARD.CA

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International Indexes of Consumer Prices 2013


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The Conference Board Continues Government Program on International Labor Comparisons

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The Conference Board will continue the International Labor Comparisons (ILC) program that was eliminated by the U.S. Bureau of Labor Statistics. The international indexes of consumer prices in this report are produced using the same concepts and methodology as those formerly used by BLS. For additional information, see www.conference-board.org/ilcprogram.


International Indexes of Consumer Prices 2013 RESEARCH REPORT 1547-14-RR by Elizabeth Crofoot, Michael Paterra, and Eric Hayek

Based on price indexes compiled by The Conference Board International Labor Comparisons program, average annual inflation in 2013 slowed in 13 of the 16 economies compared, and most economies experienced declining inflation for the second year in a row. Comparable inflation rates in this report are based on the harmonized index of consumer prices (HICP). Inflation in the Euro Area as a whole fell from 2.5 percent in 2012 to 1.3 percent in 2013, reflecting the sluggish economic conditions in member countries throughout the year. Among the Euro Area economies compared, Italy (3.3 percent to 1.3 percent) and Belgium (2.6 percent to 1.2 percent) saw the largest slowdown in inflation.

By comparison, price growth in the Netherlands nudged downward from 2.8 percent to 2.6 percent. Inflation accelerated compared to the previous year only in Norway, Switzerland, and Japan (Chart 1). Inflation in 2013 was greater than 2 percent in the Netherlands, the United Kingdom, and Austria, and it was lower than 1 percent in Japan, Denmark, Sweden, and Switzerland (Chart 2). For Denmark and Sweden, price growth in 2013 was the lowest since the beginning of the HICP series in 1996.

Chart 1

Chart 2

Change in average annual inflation, as measured by the Harmonized Index of Consumer Prices (2013)

Average annual inflation, as measured by the HICP (2008–2013 and 2013)

Percentage point change in the inflation rate from the previous year

Netherlands

Norway

United Kingdom

Switzerland

Austria

Japan

Norway

Netherlands

Germany

United Kingdom

European Union

Austria

Spain

Sweden

United States

Germany

Euro Area

United States

Italy

Spain

Belgium

European Union

France

Euro Area

Japan

France

Denmark

Belgium

Sweden

Denmark

Switzerland

Italy -2.5 -2.0 -1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0 Percentage point change Note: The harmonized index of consumer prices (HICP) is an internationally comparable measure of consumer price inflation. Underlying data for the HICP are from the national statistical agencies of the countries compared and from the European Commission (Eurostat). Inflation rates are calculated by The Conference Board.

2013 2008–2013

-0.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 Percent Note: The harmonized index of consumer prices (HICP) is an internationally comparable measure of consumer price inflation. Underlying data for the HICP are from the national statistical agencies of the countries compared and from the European Commission (Eurostat). Inflation rates are calculated by The Conference Board. Source: The Conference Board, International Labor Comparisons program

Source: The Conference Board, International Labor Comparisons program

www.conference-board.org/ilcprogram

research Report  international indexes of consumer prices 2013

3


In contrast, the majority of economies, including the Euro Area, experienced historically low inflation rates in 2009 in the wake of the global financial and economic crisis. As shown in Chart 3 on page 5, the United States, Japan, Spain, and Switzerland experienced deflation (a fall in consumer price levels) that year. After the crisis, Japan remained in deflationary territory through 2011 and returned to stable prices in 2012. As a result of expanding monetary policy and the large depreciation of the yen, Japan experienced average annual price growth in 2013 for the first time in five years. Switzerland, however, at 0.1 percent inflation in 2013, remains at risk for deflation. Despite the impact of the global crisis on price growth, inflation rates in 2013 were, except in the Netherlands and Japan, the same or lower than average inflation rates for the period 2008–2013 in all economies compared (Chart 2). Inflation in the latest year was substantially below the period average in Denmark, Sweden, and Belgium, reflecting the remaining capacity in these countries for further economic recovery.

What Is the Difference between the CPI and the HICP? The consumer price index (CPI) and the harmonized index of consumer prices (HICP) are both measures of inflation. They reflect the average change over time of prices paid by consumers for a market basket of customary goods and services. The CPI measures in this report have not been adjusted for comparability, whereas the HICP is an internationally comparable measure of consumer price inflation. For most countries, the differences between the CPI and the HICP reflect differences in the way owner-occupied housing is treated by the two indexes. For more information, please visit The Conference Board website to consult the “Technical Notes” and “Country Notes and Data Sources” associated with this report.

Why Do We Care about Inflation? One of the most frequently talkedabout economic indicators is inflation (i.e., the increase in prices over time). Simply put, inflation is when something costs more to buy today than it used to. Inflation, or price growth, reflects the decreasing purchasing power of a currency—you can buy less in the future than you can today with the same amount of money. Governments focus much of their attention on maintaining price stability (i.e., low inflation), usually around 2 percent in the advanced economies. When inflation is too high, it can become volatile, creating uncertainty that disrupts business planning and can stall future investment. Investment decisions may be affected because

4

high inflation erodes the real value of savings and can lead to higher interest rates to offset the declining value of money. Inflation translates into higher prices not only for domestic consumers, but for consumers abroad as well. In the short term, this means that high inflation can deteriorate a country’s international competitiveness and decrease exports. In the labor market, rising price inflation can signal the potential for wage inflation, either directly through contractual cost-of-living adjust­ ments or indirectly through workers’ expectations that higher wages will be needed to compensate for increased prices of consumer goods.

research Report  international indexes of consumer prices 2013

Moreover, high inflation can trigger a wage-price spiral where workers demand higher wages to maintain their standard of living. If these wage increases outpace increases in productivity, unit labor costs increase, thus forcing businesses to increase prices (or face reduced profits), which, in turn, can lead to higher wage demands. In this context, comparable measures of inflation allow for comparison of potential wage growth across countries. At the end of the day, businesses pay attention to inflation because it reflects how quickly their total costs of production are rising—or how their profit margin is changing—which influences their operational and investment plans for the future.

www.conference-board.org/ilcprogram


Chart 3

Consumer Price Index

Average annual inflation, as measured by the CPI and HICP (2003–2013) United States

6%

Harmonized Index of Consumer Prices

Australia

Austria

6%

4

4

2

2

0

0

-2

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

Denmark

Canada

Belgium

6%

07

-2

6%

4

4

2

2

0

0

-2

03

04

05

06

07

08

09

10

11

12

13

03

04

05

07

08

09

10

11

12

13

03

04

05

06

European Union

Euro Area

6%

06

07

08

09

10

11

12

13

France

-2

6%

4

4

2

2

0

0

-2

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

08

09

10

11

12

13

03

04

05

06

07

Italy

Germany

6%

07

08

09

10

11

12

13

Japan

-2

6%

4

4

2

2

0

0

-2

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

08

09

10

11

12

13

03

04

05

06

07

Norway

Netherlands

6%

07

08

09

10

11

12

13

Spain

-2

6%

4

4

2

2

0

0

-2

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

Sweden

6%

07

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

United Kingdom

Switzerland

-2

6%

4

4

2

2

0

0

-2

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

-2

Note: The CPI and HICP are two measures of consumer price inflation. The HICP is adjusted for comparability across countries, while CPIs are not adjusted. Underlying price indexes are from the national statistical agencies of the countries compared and from the European Commission (Eurostat). Inflation rates are calculated by The Conference Board. HICP data are not available for Australia or Canada. CPI data are not available for the Euro Area and the European Union. Source: The Conference Board, International Labor Comparisons program

www.conference-board.org/ilcprogram

research Report  international indexes of consumer prices 2013

5


Chart 4

Consumer Price Index

Change in average annual inflation, as measured by the CPI and HICP (2003–2013)

Harmonized Index of Consumer Prices

Percentage point change in the inflation rate from the previous year United States

6.0

Australia

Austria

6.0

4.0

4.0

2.0

2.0

0.0

0.0

-2.0

-2.0

-4.0

-4.0

-6.0

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

08

09

10

11

12

13

03

04

05

06

Canada

Belgium

6.0

07

07

08

09

10

11

12

13

Denmark

-6.0

6.0

4.0

4.0

2.0

2.0

0.0

0.0

-2.0

-2.0

-4.0

-4.0

-6.0

03

04

05

06

07

08

09

10

11

12

13

03

04

05

07

08

09

10

11

12

13

03

04

05

06

07

European Union

Euro Area

6.0

06

08

09

10

11

12

13

France

-6.0

6.0

4.0

4.0

2.0

2.0

0.0

0.0

-2.0

-2.0

-4.0

-4.0

-6.0

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

07

Germany

6.0

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

Japan

Italy

-6.0

6.0

4.0

4.0

2.0

2.0

0.0

0.0

-2.0

-2.0

-4.0

-4.0

-6.0

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

Netherlands

6.0

07

08

09

10

11

12

13

03

04

05

06

07

Norway

08

09

10

11

12

13

Spain

-6.0

6.0

4.0

4.0

2.0

2.0

0.0

0.0

-2.0

-2.0

-4.0

-4.0

-6.0

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

Sweden

6.0

07

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

United Kingdom

Switzerland

-6.0

6.0

4.0

4.0

2.0

2.0

0.0

0.0

-2.0

-2.0

-4.0

-4.0

-6.0

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

03

04

05

06

07

08

09

10

11

12

13

-6.0

Note: The CPI and HICP are two measures of consumer price inflation. The HICP is adjusted for comparability across countries, while CPIs are not adjusted. Underlying price indexes are from the national statistical agencies of the countries compared and from the European Commission (Eurostat). Inflation rates are calculated by The Conference Board. HICP data are not available for Australia or Canada. CPI data are not available for the Euro Area and the European Union. Source: The Conference Board, International Labor Comparisons program

6

research Report  international indexes of consumer prices 2013

www.conference-board.org/ilcprogram


Table 1

Harmonized Index of Consumer Prices (HICP), 2005 = 100 (2000–2013) 2000

2001

2002

2003

United States

88.7

Austria

91.2

90.8

91.6

93.7

93.3

94.8

96.1

Belgium Denmark

90.7

92.9

94.3

95.8

91.2

93.3

95.6

97.5

Euro Area European Union

89.7

91.8

93.9

95.8

90.2

92.2

94.1

96.0

France

90.5

92.1

93.9

Germany

92.4

94.1

95.4

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

96.3

100.0

103.2

105.9

110.6

109.7

112.4

116.8

119.4

121.0

97.9

100.0

101.7

103.9

107.3

107.7

109.5

113.4

116.3

118.8

97.5

100.0

102.3

104.2

108.9

108.9

111.4

115.1

118.2

119.6

98.3

100.0

101.8

103.5

107.3

108.4

110.8

113.8

116.5

117.0

97.9

100.0

102.2

104.4

107.8

108.1

109.8

112.8

115.6

117.2

97.9

100.0

102.2

104.6

108.4

109.5

111.8

115.2

118.3

120.1

95.9

98.1

100.0

101.9

103.6

106.8

106.9

108.8

111.3

113.8

114.9

96.4

98.1

100.0

101.8

104.1

107.0

107.2

108.4

111.1

113.5

115.3

Italy

88.6

90.7

93.1

95.7

97.8

100.0

102.2

104.3

108.0

108.8

110.6

113.8

117.5

119.0

Japan

102.8

101.9

100.7

100.4

100.4

100.0

100.3

100.4

102.0

100.5

99.7

99.4

99.4

99.9

Netherlands

87.1

91.5

95.1

97.2

98.5

100.0

101.7

103.3

105.5

106.6

107.6

110.2

113.3

116.2

Norway

92.8

95.3

96.1

97.9

98.5

100.0

102.5

103.2

106.7

109.2

111.8

113.1

113.6

115.8

Spain

85.5

87.9

91.0

93.9

96.7

100.0

103.6

106.5

110.9

110.6

112.9

116.4

119.2

121.0

Sweden

91.7

94.1

95.9

98.2

99.2

100.0

101.5

103.2

106.7

108.7

110.8

112.3

113.4

113.9

Switzerland United Kingdom

NA

NA

NA

NA

NA

100.0

101.0

101.8

104.2

103.4

104.1

104.2

103.4

103.5

93.1

94.2

95.4

96.7

98.0

100.0

102.3

104.7

108.5

110.8

114.5

119.6

123.0

126.1

Note: The harmonized index of consumer prices (HICP) is an internationally comparable measure of consumer price inflation. Underlying HICPs are from the national statistical agencies of the countries compared and from the European Commission (Eurostat). Source: The Conference Board, International Labor Comparisons program

Table 2

HICP-based average annual inflation (2000–2013) 20002007

20082013

20002013

2.6%

2.2%

2.4%

3.4%

3.9%

Austria

1.9

2.3

2.1

2.0

Belgium

2.0

2.3

2.2

2.7

Denmark

1.8

2.1

1.9

2.7

1.7

Euro Area

2.2

2.0

2.1

2.1

2.2

European Union

2.1

2.3

2.2

1.9

2.2

France

1.9

1.7

1.9

1.8

1.9

United States

2000

2005

2006

2007

2008

2009

3.2%

2.6%

4.4%

-0.9%

2.1

1.7

2.2

3.2

2.5

2.3

1.8

4.5

1.8

1.7

2.2

2.1

2.2

2.3

1.9

1.6

2010

2011

2012

2013

2.5%

3.9%

2.2%

1.3%

0.4

1.7

3.6

2.6

2.1

0.0

2.3

3.4

2.6

1.2

3.7

1.0

2.2

2.7

2.4

0.4

3.3

0.3

1.6

2.7

2.5

1.3

3.7

1.0

2.1

3.1

2.6

1.5

3.2

0.1

1.7

2.3

2.2

1.0

Germany

1.7

1.7

1.7

1.4

1.9

1.8

2.3

2.8

0.2

1.1

2.5

2.2

1.6

Italy

2.4

2.2

2.3

2.5

2.2

2.2

2.1

3.5

0.7

1.7

2.9

3.3

1.3

Japan

-0.3

-0.1

-0.2

-0.9

-0.4

0.3

0.1

1.6

-1.5

-0.8

-0.3

0.0

0.5

Netherlands

2.5

2.0

2.2

2.3

1.5

1.7

1.6

2.2

1.0

0.9

2.5

2.8

2.6

Norway

1.5

1.9

1.7

3.1

1.5

2.5

0.7

3.4

2.3

2.4

1.2

0.4

1.9

Spain

3.2

2.1

2.7

3.5

3.4

3.6

2.8

4.1

-0.2

2.0

3.1

2.4

1.5

Sweden

1.7

1.7

1.7

1.3

0.8

1.5

1.7

3.3

1.9

1.9

1.4

0.9

0.4

Switzerland

NA

0.3

NA

NA

NA

1.0

0.8

2.4

-0.8

0.7

0.1

-0.8

0.1

United Kingdom

1.7

3.1

2.4

0.9

2.0

2.3

2.3

3.6

2.1

3.3

4.5

2.8

2.5

Note: The harmonized index of consumer prices (HICP) is an internationally comparable measure of consumer price inflation. Underlying HICPs are from the national statistical agencies of the countries compared and from the European Commission (Eurostat). Inflation rates are calculated by The Conference Board. Source: The Conference Board, International Labor Comparisons program

www.conference-board.org/ilcprogram

research Report  international indexes of consumer prices 2013

7


Table 3

Consumer Price Index (CPI), 2005 = 100 (2000–2013) 2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

United States

88.2

90.7

92.1

Australia

86.1

89.9

92.6

Austria

90.4

92.8

Belgium

90.1

92.3

Canada

89.2

91.4

Denmark

90.7

92.9

France

90.9

Germany

92.6

2010

2011

2012

94.2

96.7

100.0

103.2

106.2

110.2

95.1

97.4

100.0

103.6

106.0

110.6

94.5

95.8

97.8

100.0

101.5

103.6

93.8

95.3

97.3

100.0

101.8

103.6

93.5

96.1

97.9

100.0

102.0

104.2

95.1

97.1

98.2

100.0

101.9

103.6

92.4

94.2

96.2

98.2

100.0

101.6

103.1

94.5

95.8

96.9

98.4

100.0

101.5

103.9

2013

109.9

111.7

115.2

117.6

119.3

112.5

115.8

119.6

121.8

124.7

107.0

107.5

109.5

113.0

115.8

118.2

108.3

108.3

110.6

114.5

117.8

119.1

106.6

106.9

108.9

112.1

113.7

114.8

107.2

108.6

111.1

114.1

116.9

117.8

106.0

106.1

107.7

110.0

112.2

113.1

106.6

106.9

108.1

110.4

112.5

114.3

Italy

88.7

91.2

93.5

96.0

98.1

100.0

102.1

104.0

107.5

108.3

110.0

113.1

116.5

117.9

Japan

102.3

101.5

100.6

100.3

100.3

100.0

100.3

100.3

101.7

100.3

99.6

99.3

99.3

99.6

Netherlands

88.4

92.1

95.1

97.1

98.4

100.0

101.2

102.8

105.4

106.6

108.0

110.5

113.2

116.0

Norway

91.7

94.4

95.7

98.0

98.4

100.0

102.3

103.0

107.0

109.2

111.9

113.3

114.2

116.6

Spain

85.4

88.4

91.1

93.9

96.7

100.0

103.5

106.4

110.7

110.4

112.4

116.0

118.8

120.5

Sweden

93.0

95.3

97.3

99.2

99.5

100.0

101.4

103.6

107.2

106.6

107.9

111.1

112.1

112.0

Switzerland

95.8

96.8

97.4

98.0

98.7

100.0

101.0

101.8

104.2

103.7

104.4

104.7

104.0

103.8

United Kingdom

88.7

90.3

91.8

94.4

97.2

100.0

103.2

107.6

111.9

111.3

116.5

122.5

126.4

130.3

Note: The consumer price index (CPI) is a measure of consumer price inflation that is not strictly comparable across countries. Underlying CPIs are from the national statistical agencies of the countries compared. Source: The Conference Board, International Labor Comparisons program

Table 4

CPI-based average annual inflation (2000–2013) 20002007

20082013

20002013

United States

2.7%

2.0%

2.4%

3.4%

3.4%

3.2%

2.8%

3.8%

Australia

3.0

2.8

2.9

4.5

2.7

3.6

2.3

Austria

2.0

2.2

2.1

2.4

2.3

1.5

2.2

Belgium

2.0

2.3

2.2

2.5

2.8

1.8

Canada

2.3

1.6

2.0

2.7

2.2

2.0

Denmark

1.9

2.2

2.0

2.9

1.8

1.9

1.7

France

1.8

1.6

1.7

1.7

1.8

1.6

1.5

2000

2005

2006

2007

2008

2009

2010

2011

-0.4%

1.6%

3.2%

4.3

1.8

2.9

3.2

0.5

1.8

1.8

4.5

-0.1

2.2

2.3

0.3

3.4 2.8

2012

2013

2.1%

1.5%

3.3

1.8

2.4

3.3

2.5

2.0

2.2

3.5

2.8

1.1

1.8

2.9

1.5

0.9

1.3

2.3

2.8

2.4

0.8

0.1

1.5

2.1

2.0

0.9

Germany

1.6

1.6

1.6

1.4

1.6

1.5

2.3

2.6

0.3

1.1

2.1

2.0

1.5

Italy

2.3

2.1

2.2

2.5

1.9

2.1

1.8

3.3

0.8

1.5

2.8

3.0

1.2

Japan

-0.3

-0.1

-0.2

-0.7

-0.3

0.3

0.0

1.4

-1.4

-0.7

-0.3

0.0

0.3

Netherlands

2.2

2.0

2.1

2.3

1.7

1.2

1.6

2.5

1.2

1.3

2.3

2.5

2.5

Norway

1.7

2.1

1.9

3.1

1.6

2.3

0.8

3.8

2.1

2.5

1.2

0.8

2.1

Spain

3.2

2.1

2.7

3.4

3.4

3.5

2.8

4.1

-0.3

1.8

3.2

2.4

1.4

Sweden

1.6

1.3

1.4

0.9

0.5

1.4

2.2

3.4

-0.5

1.2

3.0

0.9

0.0

Switzerland

0.9

0.3

0.6

1.6

1.3

1.0

0.7

2.4

-0.5

0.7

0.3

-0.7

-0.2

United Kingdom

2.8

3.2

3.0

3.0

2.8

3.2

4.3

4.0

-0.5

4.6

5.2

3.2

3.0

Note: The consumer price index (CPI) is a measure of consumer price inflation that is not strictly comparable across countries. Underlying CPIs are from the national statistical agencies of the countries compared. Inflation rates are calculated by The Conference Board. Source: The Conference Board, International Labor Comparisons program

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research Report  international indexes of consumer prices 2013

www.conference-board.org/ilcprogram


ABOUT THIS REPORT This report was prepared by the International Labor Comparisons (ILC) program at The Conference Board. The ILC program publishes monthly and annual reports of international labor market data that are comparable across countries. This annual publication features recent trends in two measures of consumer price inflation: the consumer price index (CPI) and the harmonized index of consumer prices (HICP). Charts and analysis refer to 18 economies across North America, Asia, Oceania, and Europe. For more information about ILC or to subscribe to our monthly newsletter, visit www.conference-board.org/ ilcprogram.

METHODOLOGY The consumer price index (CPI) is a measure of the average change over time in the prices paid by consumers for a market basket of consumer goods and services. Each country produces its own CPI using unique methods and concepts. For this reason, CPI data are not fully comparable across countries. Differences exist mainly in population coverage (e.g., urban households versus all urban and rural households), frequency of market basket weight changes, and treatment of homeowner costs. The harmonized index of consumer prices (HICP) is an internationally comparable measure of consumer price inflation. The HICP is the standard price index that European Union member states must produce for comparisons across countries. The index represents urban and rural households in each country and excludes the market basket component for owner-occupied housing costs. The US Bureau of Labor Statistics and the Statistics Bureau of Japan also publish HICP series that broadly follow European Union definitions.

www.conference-board.org/ilcprogram

For European economies, HICPs are obtained from the European Commission (Eurostat). The International Labor Comparisons (ILC) program compiles CPI series from the national statistical agencies of the countries compared. ILC then adjusts the official CPI data to a common base year (2005). Although the change in the base year allows for some degree of comparison, ILC does not further adjust the indexes for strict comparability to accommodate the differences in the national methodologies mentioned above. However, by construction, HICP series are comparable across countries. ILC adjusts the HICP series for the United States and Japan to the base year published by the European Commission (2005). To create historical time series for each country, ILC combines series of price indexes by adjusting them to a common base year. Because ILC does not make adjustments for changes in the coverage or computation of national price indexes, historical (1950–2013) CPI series published by ILC are not strictly continuous. See country-specific breaks in series in “Country Notes and Data Sources.” Inflation rates in this report are computed as average annual percent changes in the underlying price index. Percent changes are computed using the compound rate method. The figures may differ from official inflation rates published by national statistical agencies because of rounding. In several countries, the national statistical agencies calculate the official inflation rates from more precise index values than those that they publish. For the time series tables, technical notes, and country notes associated with this report, visit The Conference Board website (www.conference-board.org/ilcprogram/ consumerpricesannual).

research Report  international indexes of consumer prices 2013

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BOARDASIA The Conference Board CEO Challenge® 2014:

INSIDE 3 un-Conference 6 Business Perspective Briefings 8 Council News 15 Webcasts 19 News 20 Research 21 Recent and Upcoming Events

the conference board

CEO Challenge 2014 ®

EXECUTIVE SUMMARY

PEOPLE AND PERFORMANCE RECONNECTING WITH CUSTOMERS AND RESHAPING THE CULTURE OF WORK

Quarter One 2014

Innovation and Engaged Employees Dominate Thinking of Asia’s CEOs in 2014 In the latest edition of The Conference Board CEO Challenge®, an annual global survey of business leaders, chief executives in Asia ranked Human Capital and Innovation as their top two challenges. These concerns, which are seen as essential to faster growth, were joined by Operational Excellence, which executives in the region ranked third. Worldwide, Human Capital — how best to develop, engage, manage, and retain talent — was named the leading challenge, followed by Customer Relationships, Innovation, Operational Excellence, and Corporate Brand and Reputation. “While earlier years saw major discrepancies between regions, challenges cited by CEOs for 2014 revealed global convergence,” said Charles Mitchell, executive director

of knowledge management for The Conference Board and lead author of the report. “The top challenges across most of Asia converged with other regions on questions of internal strength — better products, smarter workers, stronger customer appeal, and collaboration.” The 2014 edition of the CEO Challenge survey is the most comprehensive edition yet, reaching nearly 300 more executives than last year. The latest edition of the survey also added two new sets of questions about hot-button issues and leadership attributes that offer even deeper insights on pressing concerns across continents and industries. Most notably, in China, as well as across Asia as a whole, the top hot-button issue was financial instability in China, while CEOs in India said they were concerned about currency volatility.


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Boardasia Quarter One

2014

“In the years immediately after the crisis, we found CEOs struggling to respond to the various external troubles affecting the global economy and each region,” said Bart van Ark, executive vice president and chief economist and co-author of the report. “Companies in developed as well as developing economies are working out how to prosper in a fairly sluggish growth environment. Now is the time for leaders to focus on the transition from low cost and high volume to local innovation (and consumption). There is room to strengthen engagement, accountability, customer-centricity, agility, and more.” To learn more about The Conference Board CEO Challenge 2014 and to access the full report, visit our website (www.ceochallenge.org). The Human Capital challenge cuts across all regions; high performance, strong customer relationships, and innovation essential for growth Global N=1,020

CHALLENGES 2014

Asia

Europe

United States

Latin America

China

India

N=479

N=105

N=233

N=114

N=139

N=47

1

Human capital

1

1

2

2

2

1

2

Customer relationships

4

3

1

3

5

5

T3

Innovation

2

2

4

4

1

4

T3

Operational excellence

3

4

3

1

3

2

5

Corporate brand and reputation

5

7

T5

8

6

T8

6

Global political/economic risk

T6

6

7

6

7

3

7

Government regulation

8

9

T5

5

9

6

8

Sustainability

T6

8

8

10

4

T8

9

Global/international expansion

T9

5

9

7

10

7

10

Trust in business

T9

10

10

9

8

10

N=Number of overall responses. The response rate varies for each challenge. Each score represents the mean of the ranks given the challenge. For information about how the scores were created, see “About the 2014 Survey” on page 73. In addition to other countries, the Asia category includes China, India, and Australia. T=Tie.


Quarter One

2014

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THE 2014 FUTURE INDIA LEADERSHIP UN-CONFERENCE First-of-its-kind event for leadership development professionals in India Following the success of the ASEAN Leadership event held in June 2013 in Kuala Lumpur, The Conference Board brought the innovative and interactive un-Conference format to Bangalore in January. Held over two days at the historic Taj West End property, this unique event was designed to harness the power of cocreation and crowd sourcing to answer four questions concerning the development of future leaders in India: 1 What is the future going to look like? 2 What skills are future leaders going to need? 3 What are the internal strategies for developing future leaders? 4 What are the tools in place to achieve this? The un-Conference was attended by human capital practitioners, corporate executives, and industry experts representing 50 organizations. The event was supported by McKinsey & Company, Harvard Business Publishing, Centre for Creative Leadership, DDI, Aperian Global, SAP SuccessFactors, and NHRD. The un-Conference program covered four distinct topics over two days. Each of the first three sessions opened with a presentation from a guest CEO, followed by panels of business leaders and experts tasked with identifying and framing critical topics to be discussed. The panels were led by Rebecca Ray, senior vice president of human capital of The Conference Board. After audience-led voting to determine the final topics to cover, delegates broke out into facilitated discussion groups. Each session concluded with a “spotlight� presentation, where a leading practitioner shared efforts made at his or her organization to develop current and future leaders. The final session on the second day took the form of action-learning groups, with partner organizations sharing how their technology and solutions can be integrated into leadership development programs. Attendees at the un-Conference in Bangalore.

Rebecca Ray Senior Vice President of Human Capital, The Conference Board, leading the panel discussion at the un-Conference in Bangalore.

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Boardasia Quarter One

2014

The 2014 Future India Leadership un-Conference DAY ONE Morning topic: What is the future going to look like? CEO PRESENTATION

Ramakrishnan Mukundan Chief Executive Officer, TATA Chemicals Limited SPOTLIGHT SESSION

Sidharath Tuli VP & HR Head, Hydrocarbons, Larsen & Toubro PANELISTS

Day one panelists (from left to right): Faridun Dotiwala Head, Asia Human Capital Practice, McKinsey; P Dwarakanath Director, Group Human Capital, MAX INDIA; Andrew WarrenSmith Managing Director, DDI; and Anjali Raina Executive Director, India Research Centre, Harvard Business School.

P Dwarakanath Director, Group Human Capital, MAX INDIA Andrew Warren-Smith Managing Director, DDI India Faridun Dotiwala Head, Asia Human Capital Practice, McKinsey Anjali Raina Executive Director, India Research Centre, Harvard Business School FRAMING QUESTIONS INCLUDED

• What global and Indian demographic, environmental, regulatory, and political changes will most affect global and Indian organizations and their leaders? • What effect will global and Indian business conditions have on organizations? What are the critical differences between the two? • What will be the impact of technology?

Afternoon topic: What skills are future leaders going to need? CEO PRESENTATION

Ravi Venkatesan author and former Chief Executive Officer, Microsoft India SPOTLIGHT SESSION

Awdhesh Krishna Managing Director and Global Head of Human Resources, Wholesale Corporate, Nomura Services India Pvt. Ltd. PANELISTS

Day one panelists (from left to right): Prithvi Shergill Chief Human Resources Officer, HCL; Sidharath Tuli VP & HR Head, Hydrocarbons, Larsen & Toubro; Nandita Gurjar SVP and Global HRD Head, Infosys Technologies Limited; and Jayakanthan M Head of Talent & Development and Diversity & Inclusion, Thomson Reuters.

Jayakanthan M Head of Talent & Development and Diversity & Inclusion, Thomson Reuters Nandita Gurjar SVP and Global HRD Head, Infosys Technologies Limited Prithvi Shergill Chief Human Resources Officer, HCL Sidharath Tuli VP & HR Head, Hydrocarbons, Larsen & Toubro FRAMING QUESTIONS INCLUDED

• What is the future going to look like? • What skills are future leaders going to need? • How do you leverage technology and collaboration tools?


Quarter One

Ramakrishnan Mukundan Chief Executive Officer, TATA Chemicals Limited

Sidharath Tuli VP & HR Head, Hydrocarbons, Larsen & Toubro

Ravi Venkatesan Author and former Chief Executive Officer, Microsoft India

2014

boardasia the conference board

Awdhesh Krishna Managing Director and Global Head of Human Resources, Wholesale Corporate, Nomura Services India Pvt. Ltd.

DAY TWO

Morning topic: What are the strategies for developing future leaders? CEO PRESENTATION

Mittu Chandilya Chief Executive Officer, AirAsia India SPOTLIGHT SESSION

Abhijit Bhaduri Chief Learning Officer & Head of CHRD, Wipro Limited PANELISTS

N Balachandar Director Group Human Resources, Coffee Day Anuranjita Kumar Country Human Resources Officer, Citibank Sreekanth Krishnan Arimanithaya VP and Head of HR, Computer Sciences Corporation Ritu Anand VP & Deputy Head, Global HR, TATA Consultancy Services TGC Prasad author and Managing Director, TGC Consulting

Mittu Chandilya Chief Executive Officer, AirAsia India, presents at the un-Conference in Bangalore.

GROUP FRAMING QUESTIONS

• What can be done to find, develop, deploy, and retain local leaders to support the business needs of your organization? • What can be done to increase the labor participation rate of underrepresented demographic populations? • What are the best strategies for developing future leaders?

Afternoon topic What are the tools in place to achieve this? ACTION LEARNING GROUPS

Experts from partner organizations McKinsey, SAP SuccessFactors, DDI, and CCL discussed how their technology and solutions can be integrated into leadership development programs to ensure the development of future-proof leaders.

Day two panelists (from left to right): Anuranjita Kumar Country Human Resources Officer, Citibank; Sreekanth Krishnan Arimanithaya VP and Head of HR, Computer Sciences Corporation; Ritu Anand VP & Deputy Head, Global HR, TATA Consultancy Services; TGC Prasad author and Managing Director, TGC Consulting; and N Balachandar Director Group Human Resources, Coffee Day.

Abhijit Bhaduri Chief Learning Officer & Head of CHRD, Wipro Limited at the un-Conference in Bangalore.

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Boardasia Quarter One

2014

BUSINESS PERSPECTIVES BRIEFINGS Human Capital Research Update

The DNA of Leaders Leadership Development Secrets Companies known for consistently developing great leaders — whether determined by financial performance, employee metrics, or comparisons with their peers — can be assumed to have much in common. So what are the characteristics, the DNA of successful leaders? What are the elements of leadership development programs at companies with great leadership?

Rebecca Ray Senior Vice President, Human Capital, The Conference Board

DNA of Leaders

LEADERSHIP

DEVELOPMENT

SECRETS

In Bangalore in January, The Conference Board convened a business perspectives briefing on The Conference Board report The DNA of Leaders: Leadership Development Secrets. The meeting was hosted by Wipro, with the NHRD Bangalore Chapter. The briefing began with introductions by Vishal Shah, vice president, leadership development, and MK Srivastava, vice president, management development; both from Wipro. Rebecca Ray, senior vice president and global human capital practice leader for The Conference Board, presented critical findings from the research report, which was conducted with Wipro and 16 other top global organizations. The research report addresses the question, “What are the elements of a great leadership development program?” by looking at companies that had appeared at least once in the past two years in one of three annual rankings of top leadership companies. What emerged from the surveys, interviews, case studies, and literature review were 23 values that are part of the DNA of leadership development, as well as the common traits of leadership development programs from these iconic companies. The audience for this meeting included members of The Conference Board and NHRD Bangalore chapter, Wipro executives, and senior executives involved in human resources, talent, learning, and leadership development.


Quarter One

2014

boardasia the conference board

THE CONFERENCE BOARD CHINA CENTER

Economists and Business Planners Roundtable In December, The Conference Board China Center for Economics & Business convened the inaugural Economists and Business Planners’ Roundtable in Beijing. Attended by economists and business planners from member companies, the group discussed the outlook for the Chinese economy in 2014 and beyond. Chief Economist Bart van Ark outlined The Conference Board global economic outlook for 2014 and for the period from the present to 2019. He also led a discussion on the medium-term outlook for the Chinese economy, including potential growth scenarios based on the formulation and enactment of economic reform measures and, conversely, the persistence of policy inertia. Harry X. Wu, China Center senior advisor, then presented the findings of his recent paper examining China statistical issues and reviewing China’s historical and recent real growth rates. The meeting concluded with a session on the impact for growth in China in 2014. The China Center presented its view that China is currently growing above its long-term potential growth rate, and the disconnect between high official growth rates and the fundamental slowing forces has manifested in dislocations within the financial system and credit markets. In other words, China appears to be overheating. The need to rectify these dislocations through tighter monetary and administrative policies will be one of the critical drivers of gradually slowing economic growth next year.

THE CONFERENCE BOARD CHINA CENTER

State of Attack: Preparing for and Responding to Attacks from State Media 2013 ushered in an unprecedented spate of state media attacks on foreign MNCs in China, and consumer brands in particular, on issues ranging from product warranty and product safety to anticompetitive business and pricing practices. Business leaders are uncertain whether these attacks were a temporary phenomenon or whether they should be viewed as a new and permanent feature of the China marketplace. At a China Center Deep Dive Exchange in Shanghai in April, guest speaker Scott Kronick, head of Ogilvy public relations in China, will present a review of state media attacks on foreign companies, the anatomy of an attack, and practical preparation and response measures. To find out more about The Conference Board China Center program and member benefits information, please contact David Hoffman, vice president and managing director of the China Center for Economics and Business, at david.hoffman@conferenceboard.org or +86 10 8532 4688; or Ethan Cramer-Flood, China program specialist, at ethan.cramerflood@conferenceboard.org or +01 212 339 0286

Bart van Ark Executive Vice President, Chief Economist, The Conference Board

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the conference board

Boardasia Quarter One

2014

COUNCIL NEWS China Human Resources Council The council meeting in Shanghai in October was hosted by Keppel Land China. The meeting’s theme was “The Future of HR: Time to Retool in Light of the Impact of Technology and Business Demands.” CRITICAL TOPICS DISCUSSED

• Developing the employer brand in China • Social media as a strategic resource for organizational competency • The Conference Board CEO Challenge 2014 The mission of the council is to provide its members, who are leaders in the area of human resources, with a forum for sharing best practices and actionable ideas. To find out more about this council, please contact Caroline Sy, assistant council manager, at caroline.sy@conferenceboard.org or + 852 2804 1020. Next Meeting April 10–11, Shanghai

Asia-Pacific Human Resources Council The council meeting in Singapore in November was hosted by JT International. The meeting themes were “Designing Organizations for Growth and Innovation” and “Doing Business in Asia.” CRITICAL TOPICS DISCUSSED

• Innovating for growth • Doing business in Asia and countries where companies face the biggest challenges • The Asian Economic Community • The Conference Board research report DNA of Leaders: Leadership Development Secrets • Insights from The 2013 Future ASEAN Leadership un-Conference The mission of the council is to advance the role, contribution, and impact of the human resources profession in member organizations by providing opportunities for this exclusive network of senior human resources professionals to exchange experience, access relevant research/expertise, and gain insights into new initiatives. To find out more about this council, please contact Claudia Chung, assistant council manager, at claudia.chung@conferenceboard.org or + 852 2804 2776. Next Meeting May 21–22, Hong Kong

From left to right: Chuck Mitchell Executive Director, Knowledge Content & Quality, The Conference Board; Mike Griffiths VP Human Resources, Asia Pacific, JT International (Asia Pacific) Limited; Clare Henesy CAO HR APAC, The Royal Bank of Scotland; Chua Lee Huang Human Resources Director, APAC, Ingredion Singapore Pte Ltd; Alice Lee Senior Council Manager, The Conference Board; Nishant Mihir Regional (HR) Business Partner—Infrastructure, Finance, Deutsche Bank AG, Singapore; Alison Wong General Manager—Human Resources, MTR Corporation Limited; David Learmond Senior Advisor - Human Capital, The Conference Board; Jong Hwa Park Vice President, HR Head of Asia, Novelis; Jesper Petersen Head of HR, Asia & Emerging Markets, LEGO Group; and Yu Ping Yu Director, Regional Human Resources, Heineken Asia Pacific Pte. Ltd.


Quarter One

2014

boardasia the conference board

THE CONFERENCE BOARD COUNCIL NEWS

Emerging Markets Human Resources Council The November council meeting in Singapore was hosted by Nielsen Company. The meeting themes were “Diversity & Inclusion — Effective Strategies for Emerging Markets” and “Developing Leaders and Building Organizational Capability.” CRITICAL TOPICS DISCUSSED

• The economy and business environment review • Insights from The 2013 Future ASEAN Leadership un-Conference • Designing organizations for growth and innovation • Gender diversity in emerging markets • Peak performance for leaders Members also visited the Lee Kuan Yew School of Public Policy and received a briefing on the school and areas of potential partnership with the council. The mission of the council is to provide a network for human resources professionals to exchange insights and explore and better understand the challenges and opportunities for business development and growth in emerging markets. To find out more about this council, please contact Alice Lee, senior council manager, at alice.lee@conferenceboard.org or + 852 2804 1029. Next Meeting March 18–20, Shanghai

Asia-Pacific Compensation & Benefits Council The November council meeting in Bangkok was hosted by PepsiCo. The meeting theme was “Managing Reward in the Fast Changing and Unique Environments of Asian Countries.” CRITICAL TOPICS DISCUSSED

• Effective reward programs • Salary increase budgets • Management of reward and internal equity • Reward governance processes • Pay programs of newly developing countries • Employee share ownership • Communicating reward • Retention bonuses • Sales incentives The mission of the council is to provide its members, who are leaders in the areas of compensation and benefits in Asia-Pacific, with a forum for sharing leading thinking, best practices, and actionable ideas. To find out more about this council, please contact Claudia Chung, assistant council manager, at claudia.chung@conferenceboard.org or + 852 2804 2776. Next Meeting May 7–8, Hong Kong

Note All meetings for The Conference Board councils are held under the Chatham House Rule.

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the conference board

Boardasia Quarter One

2014

THE CONFERENCE BOARD COUNCIL NEWS

Asia-Pacific Talent & Diversity Council The council meeting in Singapore in November was hosted by UBS. The meeting theme was “Leadership and Diversity Trends in Asia.” CRITICAL TOPICS DISCUSSED

• Leadership development for women leaders • Approaches to measurement and change • Insights from The 2013 Future ASEAN Leadership un-Conference • The Conference Board DNA of Leaders: Leadership Development Secrets report • Rebuilding staff confidence and engagement following the financial crisis • Current approaches and developments on succession planning, leadership development and manager effectiveness

The mission of the council is to provide its members, who are leaders in the areas of talent management, leadership development, organization effectiveness, and diversity, with a forum for sharing best practices and actionable ideas. To find out more about this council, please contact Caroline Sy, assistant council manager, at caroline.sy@conferenceboard.org or + 852 2804 1020. Next Meeting May 28–29, Hong Kong

From left to right (back): David Learmond Senior Advisor, Human Capital, The Conference Board; Stephen Pennicott General Manager, Consulting Services, John Swire & Sons (H.K.) Ltd.; Sureish Nathan Vice President, Asia-Pacific, Center for Creative Leadership; Nina Pedro Director, Talent Management and Organization Effectiveness, APAC, Avon Cosmetics Inc; and Chuck Mitchell Executive Director, Knowledge Content & Quality, The Conference Board. From left to right (front): Haoqing Deng Director Leadership and Employee Development, Talent Management, Eli Lilly China; Anna Adams Head of Assessment and Change, UBS AG; and Cynthia Lam Group Human Resources Manager, Leadership Development, CLP Holdings Ltd.

Emerging Markets Finance Executives’ Council The council meeting in Shanghai in November was hosted by TE Connectivity. CRITICAL TOPICS DISCUSSED

• Tax strategies and transfer pricing • Business analytics • Developing leaders in Asia • Performance metrics and incentives within the finance environment • The China outlook The mission of the council is to create a global network of senior finance executives for the sharing of concepts and experiences, and to advance the role, contribution, and impact of the support functions and services in member organizations. To find out more about this council, please contact Caroline Sy, assistant council manager, at caroline.sy@conferenceboard.org or + 852 2804 1020. Next Meeting May 7–8, Singapore


Quarter One

2014

THE CONFERENCE BOARD COUNCIL NEWS

Emerging Markets Risk & Compliance Council The council met in Singapore in October and was hosted by JT International. The meeting’s theme was “Ethical and Compliance Issues: Putting into Effect Corporate Policies; Sharing Companies’ Experiences across the Asia-Pacific Region.” CRITICAL TOPICS DISCUSSED

• Third-party due diligence on ethical and compliance matters • Best practices on engaging business leaders to take ownership of ethics and compliance matters

• Training practices in ethics and compliance matters • Execution of corporate ethics policies in the many jurisdictions across the Asia-Pacific region The mission of the council to provide its members, who are senior executives in charge of risk, compliance, and ethics of multinational and large regional and local companies operating in emerging markets in Asia, with a forum for sharing best practices and effective ideas. To find out more about this council, please contact Alice Lee, senior council manager, at alice.lee@conferenceboard.org or + 852 2804 1029. Next Meeting April 24–25, Singapore

Emerging Markets Mergers & Acquisitions Council The November council meeting in Hong Kong was hosted by JT International. CRITICAL TOPICS DISCUSSED

• Asia mergers and acquisitions (M&A) update • Compliance checks in M&A • Due diligence processes • Recent developments of merger controls in Asia The mission of the council is to create a global network of senior mergers and acquisitions executives to share concepts and experiences and advance the role, contribution, and impact of the support functions and services in member organizations. To find out more about this council, please contact Caroline Sy, assistant council manager, at caroline.sy@conferenceboard.org or + 852 2804 1020. Next Meeting May 5–6, Singapore

boardasia the conference board

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Boardasia Quarter One

2014

THE CONFERENCE BOARD COUNCIL NEWS

Asia-Pacific Chief Legal Officers’ Council The October council meeting in Singapore was hosted by Caterpillar. The meeting theme was “The Importance of Legal Aspects of Doing Business in the Asia-Pacific Region including Myanmar.” CRITICAL TOPICS DISCUSSED

• Recruiting and retaining able in-house lawyers • Government relations and corporate social responsibility • IP protection in the region • Assisting authorities in the various jurisdictions to develop laws and regulations • Doing business in Myanmar The mission of the council to provide its members, who are senior corporate legal counsel located in Asia, with a forum for sharing best practices and effective ideas. To find out more about this council, please contact Claudia Chung, assistant council manager, at claudia.chung@conferenceboard.org or + 852 2804 2776. Next meeting May 8–9, Singapore

South Asia Corporate Governance and Risk Management Council The November council meeting was hosted by Siemens India Ltd. in Mumbai. The meeting theme was “Sustainability, Stewardship and Trends in Corporate Governance.” CRITICAL TOPICS DISCUSSED

• Critical changes in the regulatory landscape relating to corporate/investor engagement • Can the UK stewardship code work in India? • How can Indian corporates effectively embed corporate social responsibility and sustainability concepts into their operations?

• Important corporate governance developments in India The mission of the council is to provide directors and top management an exclusive forum for discussion of governance and risk management issues. To find out more about this council, please contact Susheel Racherla, council manager, at susheel.racherla@conferenceboard.org or + 91 983 321 2349. Next meeting June 2014


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THE CONFERENCE BOARD COUNCIL NEWS

Asia Pacific Communication and Marketing Council The December council meeting in Singapore was hosted by Keppel. The meeting theme was “Capabilities to Meet Challenges in Growing Asia.” CRITICAL TOPICS DISCUSSED

• Operating environment management meetings • The concept of concentric circles of stakeholder influence • The value of digital media to the communications function • Talent development The mission of the council is to provide its members, who are leaders in the areas of corporate communications, marketing, internal communications, public affairs, and government affairs with a forum for sharing best practices and actionable ideas. To find out more about this council, please contact Caroline Sy, assistant council manager, at caroline.sy@conferenceboard.org or + 852 2804 1020. Next Meeting May 27–28, Shanghai

The China Communications and Marketing Council The October council meeting in Shanghai was hosted by Honeywell. The meeting theme was “Managing Brand and Reputation in Reforming China.” CRITICAL TOPICS DISCUSSED

• Defining the role of communications and marketing in a challenging China business environment • Understanding the landscape of the market environment • Identifying capabilities and processes in managing stakeholders • Identifying solutions to manage talent development issues • Identifying the value of social media in branding and corporate communications The mission of the council is to allow senior corporate communications and marketing executives from Greater China to benefit from the expertise of other members, augmented by insights of respected leaders in the industry, and to discuss issues and exchange best practices on issues with a strong focus on Greater China. To find out more about this council, please contact Alice Lee, senior council manager, at alice.lee@conferenceboard.org or + 852 2804 1029. Next Meeting March 13-14 2014, Shanghai

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THE CONFERENCE BOARD COUNCIL NEWS

Emerging Markets Supply Chain Management Council The November council meeting in Singapore was hosted by Applied Materials. The meeting theme was “Integrated Supply Chain Structure.” CRITICAL TOPICS DISCUSSED

• Integrated supply chain organization groups processes • Support models for HR • The McKinsey 7S model • Outward-facing supply chain strategies • Design, implementation, and use of performance measures • Department goals • Use of separate management systems for strategy The mission of the council is to advance the role, contribution, and impact of supply chain functions in member organizations as strategic business partners in value creation. To find out more about this council, please contact Claudia Chung, assistant council manager, at claudia.chung@conference-board.org or + 852 2804 2776. Next Meeting May 28–29, Singapore


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WEBCASTS The Conference Board online presence delivers a distinctive combination of expert knowledge and real-world experience. As a member company in AsiaPacific, you have access to the webcast programs either during the initial broadcast or through our online archive.

SPECIAL WEBCASTS

Cultural Fluency: Identifying Leaders in China As multinationals find that more of their employees, customers, and partners are based in China, they recognize the need to develop a culturally sensitive lens when identifying people that will help them achieve their goals. At the same time, many use leadership competency models that measure traits and behaviors by a Western-centric yardstick. This webcast reviewed findings from a recent survey by The Conference Board Research Working Group of Chinese nationals working for Western MNCs in China. The webcast was moderated by Ethan Cramer-Flood, China program specialist, China Center for Economics & Business, The Conference Board. The guest speaker was Jane Hyun, president and founder, Hyun & Associates.

Leadership Culture: The Hidden Driver of Sustainable Change Research has consistently confirmed that over 70 percent of organizational transformations or major changes fail to reach their objectives. As companies face change in an increasingly volatile and uncertain environment, they need to invest in a leadership culture that can meet oncoming challenges. This February webcast explored how different leadership cultures serve different purposes and the hierarchy of cultures. The webcast was moderated by Sanja M. Haas, senior fellow, human capital, The Conference Board. The guest speaker was Paul Galante, practice leader for organizational leadership, Center for Creative Leadership EMEA.

Ethan Cramer-Flood China Program Specialist China Center for Economics & Business The Conference Board

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THE CONFERENCE BOARD WEBCASTS

THE CONFERENCE BOARD ECONOMICS WATCH™ EMERGING MARKETS VIEW This monthly webcast provides the latest insights on the growth performance of major emerging markets, including China, India, Brazil, and Mexico, as well as Southeast Asia. The January webcast shared an economics perspective on the findings of The Conference Board CEO ChallengeŽ 2014, discussing the business environment challenges and related strategies identified by the survey participants. This webcast also explored productivity and challenges in the light of recent economic developments and medium-term prospects. The speakers from The Conference Board were Ataman Ozyildirim, director, business cycle growth and growth research; Andrew Polk, economist; Mary Jacobson, vice president, executive relations; and Abdul Erumban, senior economist. The guest speaker was Daniel Nadborny, partner, director general, Mercer.

Ataman Ozyildirim Director, Business Cycle Growth and Growth Research The Conference Board

Andrew Polk Economist The Conference Board

Mary Jacobson Vice President Executive Relations The Conference Board


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THE CONFERENCE BOARD WEBCASTS

THE CONFERENCE BOARD HUMAN CAPITAL WATCH™ The December webcast focused on “Scenario Planning for HR,” highlighting the biggest obstacles to strategic workforce planning (SWP). Rebecca L. Ray, senior vice president of human capital of The Conference Board, was joined by Mary B. Young and Jennifer Bustamante from The Conference Board human capital research team, in a discussion that addressed questions such as:

• What is scenario planning and how does it differ from forecasting? • How can HR and SWP use scenario planning? • How can scenario planning help leaders prepare for an uncertain future? The January webcast focused on findings from The Conference Board 2014 CEO Challenge survey. Ray and Charles Mitchell, executive director, knowledge content & quality, The Conference Board, discussed the strategies that business leaders plan to use to address the top challenges they perceive. The theme for the February webcast was “Talent Retention in Asia.” In addition to briefing participants on talent retention needs, tensions in the region, and recommendations for a successful human capital practice, the webcast also addressed internal challenges for HR executives (e.g., misalignment between talent management and organizational imperatives, talent retention, and reward systems). Ray was joined by Jessica Li, senior research fellow, Asia Pacific, The Conference Board; Chris Cooper, partner, Americas leader, Deloitte Chinese Services Group, Deloitte & Touche; Stacy Eng, global learning director, Johnson & Johnson Center for Leadership & Learning; and Amy Lui Abel, director, human capital research, The Conference Board.

Mary B. Young Principal Researcher, Human Capital The Conference Board

Charles Mitchell Executive Director, Knowledge Content & Quality The Conference Board

Amy Lui Abel, Director, Human Capital Research The Conference Board

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THE CONFERENCE BOARD WEBCASTS

THE CONFERENCE BOARD GOVERNANCE WATCH® The theme for the December webcast was “Governance Considerations in Base Erosion and Profit Shifting (BEPS).” CRITICAL TOPICS DISCUSSED

• Overview of the BEPS state of play including intrusive tax audit activities in some countries • The governance implications of pursuing or not pursuing BEPS strategies • Fiscal and other perspectives on the issues and risks raised by BEPS in Europe, the US and the BRIC countries

The moderator was Yaron Reich, partner, Cleary Gottlieb Steen & Hamilton LLP. The guest speakers were Nicolas Grabar, partner, Cleary Gottlieb Steen & Hamilton LLP; Saul Rosen, senior tax counsel and managing director, Citigroup Inc.; and J.F. Daniel Weyde, partner, Cleary Gottlieb Steen & Hamilton LLP.


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NEWS Recent Media Appearances NOVEMBER

Bart van Ark executive president and chief economist of The Conference Board, spoke with John Dawson on Bloomberg Asia Television “First Up” to discuss the outlook for the global economy and Federal Reserve policies. DECEMBER

Bart van Ark appeared on CNBC Asia TV live in Singapore to give his perspectives on future economic growth. JANUARY

Bart van Ark spoke with Angie Lau on Bloomberg Asia Television “First Up”. He discussed the challenges facing top executives in 2014. Gad Levanon director of macroeconomic research, and Bert Colijn labour market economist from The Conference Board, were interviewed by the South China Morning Post on rising pay rates in China and the impact on business FEBRUARY

Chuck Mitchell executive director of knowledge content and quality for The Conference Board, spoke about the results of The Conference Board CEO Challenge 2014 with the South China Morning Post.

Recent Speaking Engagements NOVEMBER

Nick Sutcliffe executive director, Asia, for The Conference Board, spoke to the Mercer Total Remuneration Survey Meeting in Singapore about the challenges keeping CEOs in ASEAN awake. David Hoffman vice president and managing director, China Center; and Andrew Polk resident economist, The China Center, spoke at the Dutch Embassy CEO’s Forum on China’s economic development. Polk also spoke on global growth and capital flows at the CEBM Group’s Annual Conference in Shanghai Bart van Ark presented at IARIW — University of New South Wales Conference on Productivity: Measurement, Drivers and Trends in Sydney. He shared his perspectives on international productivity performance. DECEMBER

Bart van Ark spoke at the China Finance Forum 40 (CF40) Lunch Briefing in Beijing, on the global and China economic outlook. He also presented the economic at the AMCHAM China Lunch Briefing and Foreign Correspondent’s Club of China (FCCC) Forum in Beijing.

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THE CONFERENCE BOARD RECENT RESEARCH RESEARCH REPORT

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The Conference Board CEO Challenge® 2014 People and Performance

EXECUTIVE SUMMARY

CEO Challenge 2014 ®

PEOPLE AND PERFORMANCE RECONNECTING WITH CUSTOMERS AND RESHAPING THE CULTURE OF WORK

Research Report 1537

The 2014 edition of the CEO Challenge survey finds business leaders across the globe focused not only on what gets done but also on how. They are shrugging off the relatively slow growth of the global economy to concentrate on people, performance, reconnecting with customers, and reshaping the culture of work. They also see a renewed commitment to customers, innovation, and the corporate brand, aided by the use of big data, as the keys to driving growth. And to accomplish this, they recognize the importance of developing an engaged workforce and a diverse and accountable leadership team. RESEARCH REPORT

Developing Leaders Voices from India Research Report 1535

Across the globe, finding the right leaders at the right time is never easy. But India must meet this challenge against a backdrop of explosive growth, significant cultural change, rapid global expansion, and a sea change in demographics.

Developing Leaders: Voices from India WHY LEADERSHIP IS MORE CRITICAL THAN EVER, AND WHAT TOP COMPANIES ARE DOING NOW TO PREPARE TOMORROW’S LEADERS

To portray the challenges faced in India and the ways in which leaders are prepared to successfully navigate through them, this report presents survey data from senior leadership development and human capital professionals based in India (VP level and above) and a mixture of audience polling, quotes, and insights from attendees of the January 2013 Leadership Development Conference, held in Bangalore. EXECUTIVE ACTION

The Link between Human Capital and Sustainability

ExecutiveAction Series

Executive Action 423

Many of the concerns of human capital are shared by sustainability officers, including employee engagement, workforce development, workplace diversity, and supply chain labor standards. A human capital strategy that does not include components of a sustainability strategy and, similarly, a sustainability strategy that fails to address human capital issues are both incomplete. As demonstrated by several leading companies, a successful sustainability strategy can drive improvements in multiple human capital areas — both on a macro level (e.g., human rights) and at the firm level through employee engagement and diversity and employee recruitment and retention.

The Link between Human Capital and Sustainability Solving People Problems with a Sustainability Strategy by Thomas Singer

As documented by recent editions of The Conference Board CEO Challenge® survey, issues related to human capital have risen to the top of CEO agendas.1 Challenges such as talent management and employee engagement are key concerns for executives among global companies and particularly among companies in Asia and Europe. This report provides an overview of the links between sustainability and human capital, offering executives a resource for addressing human capital challenges through strategic sustainability initiatives. In recent editions of CEO Challenge survey, CEOs have ranked Human Capital among the top issues globally and Sustainability near the bottom. What is not immediately evident, however, is that human capital issues are closely related to sustainability issues. In fact, many of the concerns of human capital are shared by sustainability officers, including employee engagement, workforce development, workplace diversity, and supply chain labor standards. A human capital strategy that does not include components of a sustainability strategy and, similarly, a sustainability strategy that fails to address human capital issues is incomplete. The social (people) side of a corporate sustainability strategy is as important, if not more so, as the environmental side is (which, for many, is the first and only side that comes to mind when confronted with the term “sustainability”).

No. 423 December 2013

As demonstrated by several leading companies, including Intel, HP, and Unilever, a successful sustainability strategy can drive improvements in multiple human capital areas— both on a macro level, such as human rights, and at the firm level, such as employee engagement and diversity, and employee recruitment and retention.

Engaging Employees through Sustainability In one of its most recent surveys, research consultancy GlobeScan found that, globally, 81 percent of employees agree that the more socially responsible their company becomes, the more motivated and loyal they are as employees.2 This, of course, only works if a company has effective means of communicating and engaging its employees around its sustainability and CSR activities.


Recent and Upcoming Events Corporate Leadership Councils p Emerging Markets Risk & Compliance Council

April 24–25, Singapore

p Emerging Markets Mergers & Acquisitions Council

May 5-6, 2014, Singapore

p Emerging Markets Finance Executives’ Council

May 7–8, 2014, Singapore p Asia-Pacific Chief Legal Officers’ Council May 8–9, 2014,Singapore p Asia Pacific Communication and Marketing Council May 27–28, 2014, Shanghai

Webcasts p GOVERNANCE WATCH™

April 17, 2014 April edition June 19, 2014 June edition

p Asia-Pacific Talent & Diversity Council

Webcasts p HUMAN CAPITAL WATCH™

The Conference Board CEO Challenge 2014 & The 2014-15 Global Leadership Forecast p May 19, 2014, Bangalore p May 21, 2014, Singapore p un-Conference The 2014 China Future Leadership un-Conference May 22-23, 2014, Shanghai

Councils p China Human Resources Council

May 7–8, 2014, Hong Kong p Asia Pacific Human Resources Council May 21–22, 2014, Hong Kong

Evolving Skill Shortages in U.S. Labor Markets The Evolution of D&I: From Compliance to Culture and Beyond 2014 Coaching Survey Report

Executive Briefings p The Conference Board CEO Challenge 2014 & Growth Productivity & Competitiveness Report

p June 23, 2014, Kuala Lumpur p June 26, 2014, Singapore (hosted by Singapore Business Federation)

p June 27, 2014, Bangkok (hosted by Thailand Management Association)

Councils p Emerging Markets Supply Chain Management Council May 28-29, 2014, Singapore

Webcasts p ECONOMICS WATCH™

Apr 10-11, 2014, Shanghai

p Asia-Pacific Compensation and Benefits Council

Apr 16, 2014 May 21, 2014 Jun 18, 2014

Economy & Business Environment

Human Capital Executive Briefings

May 28–29, 2014, Hong Kong

Apr 10, 2014 May 15, 2014 June 12, 2014

Emerging Markets View: The impact of changes n the global energy landscape on the opportunities and challenges available to industries in emerging markets. Emerging Markets View: Leading economic indicators for the Gulf Cooperation Council (Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates). Emerging Markets View: Overview of main labor market trends across emerging markets

For more information on any of these events, please check the appropriate box, type or attach your business card, and fax this form to +852 2869 1403 Name_____________________________________________________________________________________________________________ Company____________________________________________ Position _____________________________________________________ Email _________________________________________________________ Tel______________________ Fax _______________________ Address ___________________________________________________________________________________________________________ ________________________________________________________________________________ Country _________________________

The Conference Board BoardAsia Quarter One 2014

Programs subject to change Project Code: 6307-05 Agenda Code: MA3


Conference KeyNotes

KEY ISSUES | BENCHMARKS | ACTION PLANS

The 2014 Talent Management Strategies Conference Unlock Talent Potential to Drive Business Success As a community of business leaders, The Conference Board convenes senior executives to share cuttingedge ideas and best practices. This Conference KeyNotes summarizes the discussions held by approximately 100 senior executives who attended the Talent Management Strategies Conference in New York in February 2014. The views expressed are those of the presenters and participants at the conference.

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Key Issues Page 2 Most employees are promotable: the two types of high potentials How to spot a high-potential employee Base your talent management program on company culture Change the conversation about talent Don’t be afraid of analytics and big data

Benchmarks Page 7 Attendees said the two most common ways their organization support talent management are measuring and reporting talent management metrics and understanding employees’ skills and using that information for talent planning. Almost half of the participants agreed that their organizations have a high innovation culture. Leaders at attendee organizations promote an innovation culture by encouraging and rewarding new ideas and by gathering customer feedback, analyzing external trends, and nurturing new ideas. Human capital practices at participants’ organizations support an innovation culture by leveraging best practices and knowledge sharing across global regions and using cross-functional teams.

Action Plans Page 9 What Conference Participants Plan to Do Differently

CK-111 April 2014

Talent, strategy, and reviews Data Culture


KEY ISSUES A company’s best defense for meeting a rapidly changing business environment is to have a strong succession plan and a pipeline of “ready-now” employees who can step into vacant positions. It is possible to detect who will have the most potential and train them to step into these jobs. But if companies are to do so, they must base their talent management strategy on their corporate culture, recognize that a talent management program needs to tie into business strategy, and possess internal human analytics capability.

Most Employees Are Promotable: The Two Types of High Potentials Not all high potentials are created equal. They operate on a spectrum of potential from depth of specific subject matter to breadth of generalized adaptability skills. All are promotable, depending on the opportunity, and each employee can build his or her skills.

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Those with learning agility High potentials on the management track tend to be agile learners. These employees rank high on the spectrum in breadth and match the traditional profile of the high-potential employee. One presenter defined learning agility as the ability and willingness to learn from experience and use that knowledge to perform successfully under new conditions. Learning agility, which can also be defined as adaptability, is about what an employee can achieve in the future rather than what he or she accomplished in the past. Learning agility is different from traditional learning and book smarts. People who are agile learners easily adapt to new functions, deal with ambiguity and complexity well, and thrive on change. Their curiosity is reflected in their willingness to make fresh connections, their need to seek out and learn from diverse experiences, and their ability to solve complex problems, even if they are confronting a challenge for the first time. According to one presenter, the five traits of learning agility that can be developed are: 1 Mental This does not refer to the IQ of the mentally agile but their capacity to find parallels and contrasts, question conventional wisdom, and solve tough problems. 2 People Employees with people agility value the work of others, communicate skillfully, and handle conflict constructively. 3 Change People with change agility enjoy tinkering with things, strive for continuous improvement, and view taking risks as a learning opportunity. 4 Results Those with results agility build high-performing teams that deliver against the odds.

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5 Self-awareness Those with self-awareness agility know their strengths and weaknesses, view criticism as helpful, understand their feelings and moods, and willingly take accountability for mistakes. If a role is strategy driven, new, in a quickly changing field where the future is undefined or emerging, and requires fresh ideas, then a learning agile employee will be a good match. Learning agile employees can build breadth by working in different functions, businesses, and geographies; leading task forces and strategic projects; and receiving regular feedback and coaching.

Conference KeyNotes  The 2014 Talent Management Strategies Conference

www.conferenceboard.org


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Those with mastery of skill or subject matter expertise These employees rank high on the spectrum of depth. Although they are functional or technical experts who are trusted resources and superior performers in similar jobs/functions year after year, these employees often don’t aspire to higher management. Consider a “master in field” employee for a position that requires in-field expertise, demands an understanding of the past to address future situations, and involves the development or mentoring of others.

How to Spot a High-Potential Employee Determining high potentials has been an ongoing challenge for many companies, but it can be done. Companies just need to make sure all managers are trained to understand that evaluating an employee’s potential is a part of their job.

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One fast food company uses two tracks—potential and readiness to advance—to determine which employees should be considered for promotion.

——The potential