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CEO as catalyst

5 February 2015 By Rob Cox

When it comes to creating value for shareholders, one move a chief executive officer can make is to quit. Shareholders applauded two high-profile CEO departures at big public companies this week: Ally Financial and Petrobras, Brazil’s state-controlled energy giant. Ousters at McDonald’s recently and Microsoft in 2013 earned similarly positive reactions. Though each case is unique, the common thread seems to be relief after a leader becomes entrenched and inflexible.

Take the curious case of Michael Carpenter, who on Monday unexpectedly stepped down from Ally, the former financial services arm of General Motors. The onetime Citigroup banker had run the company for six difficult years, which included restructuring the business, taking it public and paying back Uncle Sam for a $17 billion bailout. Moreover, days before ceding the job to Jeffrey Brown, Carpenter looked firmly in charge, railing with colorful language against Ally’s former owner in a call with investors.

Yet shareholders took succor from Brown’s appointment, adding about $600 million to Ally’s market capitalization. It’s not that Carpenter was doing a terrible job. With the heavy-lifting of turning the $9.6 billion Ally into an institution capable of standing on its own two feet completed, shareholders simply seemed to agree that it was time for a new leader with a different perspective on the company’s legacy.

Ally’s was a more nuanced shift than the exit of Maria das Graças Foster from the helm of Petrobras, where she had worked since 1978. Though Foster has not been implicated in the bribery scandal that has fixated Brazilians over the past six months, her departure suggests that the government – headed by President Dilma Rousseff, Foster’s friend and a former Petobras chairman – is at last coming to grips with the severity of the so-called “Car Wash” affair.

The notion that Petrobras was somehow drawing a line under the fiasco, which has diverted management attention from the important task of producing oil, was enough for shareholders to send the stock surging some 15 percent on Wednesday. All told, Petrobras is worth almost $8 billion more in dollar terms today than it was before Foster quit. That shows surprising investor confidence given Petrobras has yet to name her successor.

But it’s not irrational for investors to delight in the removal of CEOs, especially at poorly performing companies. Morgan Stanley last month published a research report analyzing the stock price movements of European companies following management changes. Among the conclusions: putting new executives in charge “does not lead to share price outperformance but tends to stop underperformance.”

That has certainly been the experience at McDonald’s, which replaced Chief Executive Don Thompson on Jan. 28 after a prolonged period of lackluster sales. Over the past year, shares of the fast-food chain lagged rivals including Starbucks, Wendy’s and Burger King. Since handing stewardship of the Golden Arches to veteran Steve Easterbrook, the $92 billion company has seen a 5 percent rise in its value, modestly vaulting over competitors.

The McDonald’s case is akin to Ally’s situation. The robust shareholder response reflects less any expectation that the new broom is worth billions than relief that the board of directors took corrective action and removed an executive who, while perhaps competent, was sticking for too long with a strategy that wasn’t working.

The benefit doesn’t depend on the new CEO making radical changes, either. Microsoft is a case in point. The stock surged by $20 billion on the day in August 2013 when long-standing CEO Steve Ballmer said he would retire. Since then, the company has added another $60 billion in market cap even though Satya Nadella, Ballmer’s successor, has kept the enterprise pretty much intact.

This seems to be in keeping with Morgan Stanley’s findings. Within six months of leadership changes, investors tend to re-rate the shares of the companies concerned, for instance by according them higher price-to-earnings ratios. But it takes two years or more before returns actually improve, which they do in most instances following the arrival of a new CEO. As a result of this, Morgan Stanley suggests a host of large European companies where corner-office shifts may be coming and are worth investing in, including Novartis, GDF Suez, Rolls Royce and Tesco.

A lack of investor response to surprise changes at the top, like at United Technologies in December, arguably reflects shareholders’ reliance on the board and senior management team collectively as opposed to the CEO alone.

But of course the departure of a company boss can be a disaster for stockholders, too. Imagine, say, that Mark Zuckerberg were to abruptly tender his resignation from Facebook. Investors would freak. That’s because the investment bull case still resides largely on faith in the founder’s individual vision. It’s probably a good thing that most companies have more than that to go on.


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