Now that Jeffrey R. Immelt has decided to step down as CEO from GE after 16 years in the top job, we’ll get a chance to see where his successor lands when it comes to acquisition strategy. John Flannery takes over as CEO on August 1. He currently runs GE Healthcare but has spent 30 years in various parts of the company, including in corporate business development where he’s been hands-on with M&A strategy. Immelt certainly continued the deal pace of Welch (see chart below comparing their deal history), and it’s likely that Flannery isn’t going to slow GE’s deal-making machine.
While GE will offer a real-world view of how CEOs shape corporate strategy, according to recent research from McKinsey, new CEOs are more likely to come into the role with an aggressive acquisition strategy that tapers off as the years pass. Intuitively this makes sense, but at the same time, it doesn’t. If a company is performing well and has a clear strategy with a solid transition plan, then there shouldn’t be a need to stray from the path, regardless who is at the helm. However, it seems just as likely that new leaders would want to make their mark and execute on the strategy that helped get them into the top job, regardless of prior performance.
Is this valid? And if so, is there an opportunity? (Spoiler: Maybe and Yes)
Looking at the S&P 500 and combining FactSet’s People and M&A data we have 171 companies in the index that have a history of M&A and a CEO change in the last three years. We can then compare the current CEOs' deal activity against the deal activity in the three years prior to the change.
To get an equal footing, we calculate the average annual deal volume for the current CEO based on tenure and deal activity (either actual average if tenure is more than one year or expected average if tenure is less than one year). We then calculate the actual average annual deal volume for the three years prior to CEO change. From there, we calculate the ratio of new to old. If the ratio is more than 1, then the new CEO is more acquisitive; if the ratio is less than 1 then the new CEO is less acquisitive.
Comparing the prior activity to the new CEO yields a correlation of just 0.42, suggesting wide variability in strategy implementation with a management change.
Grouping the ratios into categories provides further insight. New CEOs either have a positive, negative, or neutral effect on deal activity. For grouping purposes, we set the ratio range above 1.15 for positive impact (more deal activity), 0.85 to 1.15 for neutral impact, and less than 0.85 for negative impact (less deal activity). Also, roughly 10% did not report any deals historically or from the new CEO, and 3.5% of new CEOs were in the top role less than one month, so they are labeled as "Not Enough Tenure." This simple comparison of the new CEO against the prior three years indicates that the new CEO is less likely to be acquisitive: 43% negative impact vs. 35% positive impact.
However, this is not the full story. A large portion of the negative activity comes from companies that have not done a deal since the new CEO started, but the average tenure of these CEOs is about 10 months, and the average historical deals for their companies is just one per year, so there is still room for a shift (though the window is closing fast). Additionally, the six CEOs that have been in their role less than a month don’t impact anything just yet, but they may also just need time.
In other words, this initial, limited comparison would probably support McKinsey's research if expanded. Our research also focused only on new CEOs as buyers, but it is just as likely that new CEOs would divest operations that do not support their strategy. The research could be expanded to look at all deal activity as well as separated into buyer and seller sub-group analyses.
What's the Next Step?
As a deal advisor, finding new CEOs that are willing buyers provides potential for transaction work for sellers. As an investment manager, putting these 47 companies on a watchlist for potential deal activity (either investing in or steering clear of them) could provide an opportunity for investors to capitalize by betting on the new CEO’s strategy or avoiding companies that might use deals to change the corporate trajectory.
Another worthwhile study would be to track the CEO independent of the company to see if any individuals have an acquisitive history. For example, Meg Whitman was Chairman of eBay for 10 years, and eBay certainly made a lot of deals while she was there. Now as CEO of HPE, she has continued that strategy (16 deals in the last three years). Finding the people that drive deals can give you additional insight into these companies.
As always, more research can certainly uncover more value.
Article By Bryan Adams, FactSet