The Economics of Everyday Things - 85. Executive Recruiters

0:03Imagine that you're on the board of directors at a Fortune 500 company, and the CEO just told you she's going to step down. You have to find an experienced, charismatic, and operationally astute successor, preferably one who knows the industry, and you only have a few months to pull it off. But you can't exactly reach out to your competitors to see if they're interested in sending over some of their executive talent. So...

0:31you might decide to get a little help from an outside consultant. A professional headhunter. Maybe a better term for us is, you know, unicorn hunters. That's Julian Ha. He's a partner at the executive recruiting firm Hydric and Struggles. We're out there looking for the purple unicorn. And then they say, well, we want a polka dotted purple one. I said, well, we have striped ones and we have square ones, but the polka dot one's going to be tough.

1:02CEOs might not be mythical creatures, but they're certainly a rare breed. There are only a few people who have the right qualifications to lead a multinational corporation, and finding them is only one part of Ha's job. The executive search 20, 20, 30 years ago was probably more based on your black book, right? Who did you know? Who's in your Rolodex?

1:28These days, there's Google, there's LinkedIn, there's all these ways to find people. The value that we try to add as an industry is the search, the selection, the filtering, the assessment, the referencing, and then guiding our clients to help them hire their next leader. For an executive recruiter, there's a lot on the line. If you find the right candidate, you could earn a substantial payday for yourself.

1:57But one bad placement and your client's stock could take a nosedive. One of the things that you become aware of in this work is that you're impacting millions of lives, not figuratively, literally. The stakes are high. The organization's trajectory is going to be determined in large part by the CEO and the team that serves around them. For the Freakonomics Radio Network.

2:31This is the Economics of Everyday Things. I'm Zachary Crackit. Today, executive recruiters. There are recruiters in just about every job sector in America. They message engineers on LinkedIn. They email corporate lawyers with job offers. They poach doctors for hospitals, wind turbine technicians for energy companies, and long-distance truckers for transportation firms.

2:58They're hired by corporations to find and assess the best professionals on the market. We are bombarded every day with folks who would like to grab coffee and get to know us. Again, that's Julian Ha. There's a misunderstanding that a person who's looking to find their next role is going to hire us to help them find it. That is not the case. Our clients are not the talent. Our clients are the companies that retain us.

3:30If you're sourcing, say, computer programmers for Google, there are thousands of potential candidates at competing tech firms that you can reach out to. But if your job is to hire Google's next CEO, the small pool of plausible candidates aren't easy to reach. That's where executive recruiters or headhunters come in. We are retained by Fortune 1000 companies, foundations, trade associations.

3:58academic institutions to help them with recruiting their next leader. We find positions such as CFO, General Counsel, Chief Marketing Officer, CEO. Five big firms control the executive recruiting industry. Spencer Stewart, Hydric in Struggles, Russell Reynolds Associates, Egon Zender, and Corn Fairy. They go by the acronym Shrek, spelled like the Green Ogre from the DreamWorks movies.

4:28Haas Firm, Hydric and Struggles, is the H. They've worked on some of the biggest CEO placements in the corporate world. We have done CEO searches for Google, for Intel, for Uber, for Microsoft, a number of prominent think tanks and cultural institutions, the Kennedy Center. We're currently in the market for the head of the American Medical Association.

4:55That's a situation where you need someone who understands the world of healthcare and medicine, but also what it's like to walk in a physician's shoes day in, day out. The job of recruiting executives has become more important in recent years. The median tenure for a CEO of an S&P 500 company has declined by 20% over the last decade to just 4.8 years. Since the pandemic, which put corporate America under extra pressure, CEOs have quit in record numbers. But there's still a finite amount of CEO openings at top firms. And even the most successful executive headhunters might only be working on 10 or 20 candidate placements a year. That's definitely not a volume game. Jane Stevenson is the global vice chair of board and CEO services at Corn Ferry, the K and Shrek. It's the largest of the five big executive search firms.

5:54with annual revenues of $2.8 billion. Stevenson's job is to help corporations come up with succession plans for their top leadership roles. And that process begins years in advance. You want to know the best time to start? The first day of the new CEO. And the reason for that is it takes a long time to cultivate the leadership skills of a really great CEO. Inside a corporation, The CEO search process is typically led by the board of directors, the committee elected by shareholders to oversee a company's management. Once the board brings in an executive recruiting firm, there is a series of informational meetings where the recruiters learn why a leadership change is coming and what the company is looking for. What we want to start with is the business agenda. What are the things that are going to define success or failure in the future?

6:54And then from there, you look at, okay, if those are the outcomes that we're looking to achieve, then what are the things that need to be in place for the candidate to have credibility and capability? Armed with the demands of the hiring company, an executive headhunter will begin their search. Stevenson says this is often one of the easier parts of the job. We have so many different tools today.

7:21access through the internet, through LinkedIn, through artificial intelligence. I think there'll be a lot more even into the future. And so identifying who's in a particular role and understanding the company that they're serving in is not as difficult as it once was. Today, the access to the information is reasonably easy. The question is, who is that person and how do they play out?

7:49in a particular company situation. Most headhunters have their own extensive roster of connections from years of schmoozing. We're talking to people every day, all day. You may not have a reason to think about that person today for anything specific, but you certainly remember. And then when the appropriate time comes up, you already have a sense about it. If I've done enough searches for Fortune 50 companies in the industrial sector, I will know 10 people I can call right away, at least as a starting point. They may not all be candidates because some of them are very happy where they are, but I will trust them to know people that they regard highly, that they will suggest, say, Julian, do you know so-and-so? I'll make the introduction. For CEO roles, headhunters are often looking at people who are already CEOs elsewhere.

8:48preferably at companies of a similar size. It takes the average CEO 24 years to achieve the top corporate position. So most have already been extensively tested in public roles. But Ha says a big part of the job is also finding unpolished gems. We're scanning the market to see who are the up-and-comers, who are the people whose name keeps coming up when we talk to other executives.

9:17We attend conferences, we attend gatherings, and folks who present, who speak, who write a white paper, will raise their own visibility. And when we're at those conferences, recruiters in general, we'll take note and say, oh, well, that seems like a sharp person, and we should probably keep that person as a next-gen talent in our minds. Many companies prefer to focus their search on the candidates they already know best.

9:46their own employees. In 2024, 77% of CEOs hired by S&P 500 companies were already working at the company. When you are observing someone over a five to 10-year period, you know them pretty well. You know what all their awards are, right? And all of us have downsides.

10:09So the fact is that when you're looking at an external candidate to the company, they have warts too. The question is, do you know what they are and are you picking the warts you most prefer? Another consideration, although not the primary one, is diversity. In 2023, the CEOs of 37 of the 50 largest companies in the Fortune 500 were white men. Only eight were women and just seven were people of color.

10:37In recent years, recruiters have tried to present corporate boards with a more balanced pool of candidates. If you want to have access to the best talent then you can't just have only one type of person in your mix. The fact is that women are a huge percent of the population in MBA programs today. So if you have women that are coming up through the pipeline then you better have some women in your finalist candidate pool. Because if you don't, you don't have the best talent. And when you look at the stats, financial results of diverse executive teams are consistently strong. Regardless of who the candidate is, headhunters are looking for a few core competencies. You have to know how to run a business. You have to understand how to change in response to circumstances, whether that's market trends,

11:38or geopolitical shifts. And increasingly, you have to be willing to be a public figure who can give an eloquent interview on CNN or defend corporate policy in a congressional hearing. As a baseline assessment, headhunters will do some informal outreach. We've been trained in what we call the competency-based interviewing technique. So we go through the candidates' history, getting anecdotes, getting evidence of...

12:07What they say they've done, how they did it, it's a pretty methodical interrogation, I guess. At the end of the initial sourcing process, recruiters compile a long list of candidates that might contain as many as 150 names. And then it's time for those names to go through the CEO meat grinder. We've had candidates come in and stand at a podium and do a mock presentation.

12:35as if they were at the annual meeting. What's their energy level? What's their communication style? Are they engaging? Those are all things that are being tested for. That's coming up. During the first month or two of a CEO search, an executive recruiter like Jane Stevenson will chisel down a long list of potential candidates through a series of intensive interviews. The interview of the candidate is generally handled with two types of professionals. One is what I'll call the market expert. This is someone that really knows the space the company is in. So they're living it and breathing it every day. And they are complemented with a behavioral leadership interview that is led by one of our psychologists. We're also looking to talk to people that they have worked for.

13:32People that they have worked with as peers and people that have worked for them. It's a little bit like the old story of the elephant, right? When you're touching the tail, it feels very different than when you're holding the leg or touching the trunk. And so we really want to understand from all the different perspectives how this person operates. This inquisition even extends into the executive's personal life.

13:57If someone is looking to have a particular level of control and balance in their life, that's probably not equivalent to being a CEO. I mean, it is a 24-7 job and you are always representing the brand that you serve. So you have to be up for that and you have to find that fueling as opposed to draining. The candidates who passed the test.

14:25are subjected to psychological assessments. We're assessing the ways people make decisions. We're going to look at also the ways that you manage and lead people. Do you empower people? Do you tend to shut people down? Are you someone that needs to have high levels of control? Contrary to belief, when you become a CEO, you have more bosses than you've ever had.

14:51in your life all at the same time because everyone on the board is your boss. They all have independent views and perspectives. So it is not a case where you just walk into that office and then start making the decisions in isolation. Some candidates will even be asked to do simulations. I like to call it a year and a day. So there are a number of different situations that they go through.

15:21in a company that you give them an outline for and they play the role of the CEO in real life situations. They'll do a SquawkBox interview, they'll do a board meeting, or they'll do a review with an employee who didn't meet their quarterly objectives. Confidence is huge, right? Credibility, gravitas looking at their ability to have integrity and at the same time be able to tell a story.

15:50that is effective and to address difficult situations with aplomb and honesty. Throughout this process, executive recruiters have to operate undercover. Most of the candidates are gainfully employed elsewhere and any leaks could have catastrophic consequences for them and for the hiring company. Loose lips definitely do sink ships. Most of what we do, you can't talk about to anyone.

16:23Often we use NDAs so that people are under a legal obligation not to share information about their candidacy. And even within your close circle, you just don't discuss these things. I've had very few leaks in my career, thank God, because it's emotionally just devastating. But there was one and it actually came from the spouse of a board member of this major company. And all of a sudden, all the lead candidates were on the front page of the Wall Street Journal. What impact did that have on the search? Three of the major candidates pulled out. They didn't want to be under the scrutiny. It's not a pleasant thing to have happen. If all goes smoothly, a headhunter will present a short list of finalists to the client's hiring committee.

17:14Typically, if you do a really good job, it's going to be let's say three to seven candidates. And then those candidates will be interviewed. You'll get feedback. You'll see what the chemistry is like. That'll narrow it down to two or three. Ultimately, it's the company's decision who they want to go with. Once they've made their choice, an offer is drawn up. Julian Ha says the recruiter often stays on as a liaison to communicate the terms of the deal. I usually recommend that a client lets us present the initial offer because that way if there's a certain allergic reaction or something that they'd rather share through us rather than their future boss, it just takes the awkwardness out. So I try to socialize the offer and send feedback. Some people might want more long-term incentive, more options, more equity, more risk capital.

18:08Others say, well, look, I would love to do this job, but the reality is I have a mortgage and I have school fees and I have caretaking for my elderly parents and I need more cash. We can share that with our client who can adjust accordingly or tell us, well, we love this person, but we just can't do it because we have these parameters. The median CEO pay among companies in the S&P 500 is now nearly $18 million a year.

18:38And top executives are often largely compensated in stock rather than cash. In 2024, for instance, Microsoft CEO Satya Nadella received $79 million in total compensation. But only 2.5 million of it was his base salary. This is an important distinction for executive recruiting firms because they're typically paid a retainer based on the first year cash compensation of the CEO.

19:07If you're talking about a traditional executive search, then it is a third of the anticipated compensation. That means that if a CEO's cash compensation is a million bucks, the search firm will get around $300,000. There are exceptions to this. In extreme cases where a CEO has a base salary of tens of millions of dollars, the firm might work out a set fee or a cap.

19:36But regardless of how the deal shakes out, the recruiter who led the effort will usually get a cut of the business they bring in. Executive headhunting can be a lucrative profession. But people like Jane Stevenson and Julian Ha are in it for more than the money. No one goes to college or grad school and says, I'd like to be a headhunter someday. But at its essence, I think what we do matters. At the end of the day, Leaders will shape things, they will guide things, they will create things for good or not. And to be part of that, to have some influence in that process is a privilege.

20:49You know, it's become my breakfast of champions, Zachary. It's got the caffeine, it's got the fuel I need.