How spin-offs are a catalyst for increasing leadership diversity

Companies are under growing pressure to increase diversity in corporate boards, the C-suite and across executive leadership. One opportunity to address the lack of diversity is during a spin-off, where there is a chance to drive transformational change at two organizations and potentially be rewarded with higher total shareholder return (TSR).

In fact, an EY-Parthenon analysis of 98 spin-offs over 10 years shows that organizations that prioritized diversity – specifically race, ethnicity, gender and age – in post-spin-off leadership teams (both at RemainCo and SpinCo) saw higher TSR. To capture the full set of potential leaders with the right qualifications to drive long-term value, organizations that focused on ensuring a diverse slate of qualified candidates were considered and selected were best positioned for post-spinoff success.

To best leverage this opportunity, however, diversity needs to be addressed early in the planning phase so that both the CEO of RemainCo and SpinCo can best leverage this opportunity.  

The call for leadership diversity

A wide swath of stakeholders has pushed for increased leadership diversity in recent years: institutional investors, activist shareholders, employees and customers. For example, an EY report on environmental, social and governance (ESG) developments in the 2021 proxy season indicated that two-thirds of 60 institutional investors interviewed are now incorporating diversity thresholds into their proxy voting policies. More than half of companies (55%) in the Russell 1000 index shared some level of racial and ethnic diversity workforce data as of September 2021, up from 32% earlier in the year.[¹]

But diversity isn’t just about checking a box: Companies need to shift perception of diversity in corporate governance from a “representation” factor to a value driver. Our analysis shows that companies that promote diversity in their leadership roles realize positive performance trends.

Diversity opportunities increase in a spin-off

In some cases, a spin-off can double the opportunity to increase diversity in the leadership ranks, as an entirely new leadership team needs to be set up for SpinCo, while RemainCo will need to backfill leadership that moves on to the new organization. However, SpinCo seems to be the entity where diversity is most often added.

Across diversity metrics, SpinCo exceeded RemainCo leadership teams in percentage of growth of diversity across gender, race, ethnicity and age. For example, about 11% more SpinCo organizations had more diverse leadership teams than RemainCos.

The benefits vary across different types of diversity, including gender, age, and racial and ethnic diversity.

Gender diversity

Organizations that increased gender diversity across the leadership and executive team tended to see higher TSR performance than organizations that maintained or decreased leadership gender diversity. This can be an untapped opportunity, as the majority of companies say that they did not increase leadership gender diversity after a spin-off.

Research from the World Economic Forum shows that, on average, companies with gender diversity outperform less diverse peers with about 48% higher operating margin, 42% higher return on sales and 45% higher earnings per share.[1] Often, the outsized performance can be attributed to research showing that gender diverse teams up to 73% of the time make better business decisions.

About 43% of SpinCos studied showed an increase of gender diversity. An 8% spread in excess TSR performance versus sector indices was realized for those organizations that increased gender diversity post-spin-off versus those that did not. The same trend holds true for post-spin-off, RemainCo organizations, where there was an 11% spread in excess TSR performance.

Above and beyond business performance, gender diversity in an organization can be a critical factor to candidates as they consider different organizations to join. A Glassdoor survey found that 67% of job seekers consider diversity and for top female candidates 61% look at gender diversity of an employer’s leadership team when deciding an offer.[²] During a spin-off – when talent retention is often a critical concern for leadership – having diversity in leadership may be a key differentiator in whether someone stays during organizational transformation or looks for new opportunities.

Racial and ethnic diversity

When it comes to racial and ethnic diversity, SpinCos that increased leadership diversity saw on average 10% higher TSR than sector indices. Those organizations that decreased racial and ethnic leadership diversity underperformed sector peers by 13%.

Though there is less public data available about racial and ethnic diversity in comparison to age and gender diversity, one trend that emerged is that SpinCos were more likely than RemainCos to have increased racial and ethnic diversity in leadership. Still, overall both SpinCos and RemainCos that increased leadership diversity saw TSR that outperformed their peers.

Generational diversity

Using age as a proxy for tenure or experience, about 69% of SpinCo organizations had younger leadership teams than those found at RemainCos. Put together with other metrics, SpinCo leadership teams are more diverse but less tenured. 

While the temptation can be to select less experienced leaders for SpinCo, companies need to be intentional about the mix of leadership, making sure that more tenured leaders also join SpinCo. In fact, it appears that the market shows outsized support for SpinCos with more tenured leadership teams, perhaps considering prior experience an asset in weathering the uncertainty common in standing up a SpinCo. Organizations that increased or maintained their average leadership age saw TSR performance in excess of sector indices (28%) and the S&P 500 (20%), while those that had a decline in average leadership age significantly underperformed sector indices and the S&P 500 by about 15%.

Only 8% of organizations specifically include generational diversity as part of the overall diversity, equity and inclusion (DEI) strategy. However, multigenerational teams, when managed effectively, can bring together people with complementary skills and drive better decision-making.[1] While generational diversity often takes a back seat versus considerations on gender and racial and ethnic diversity, it is a powerful consideration when thinking about post-spin leadership and setting up SpinCo for success.

How to reap the benefits of diversity

There are several ways that CEOs and their teams can make leadership diversity a priority when initiating a spin-off. 

1. Work with the board to define leadership diversity metrics as part of the initial strategic planning and considerations when initiating a spin or other transformative transaction.
2. Consider leadership structures and role appointments earlier in the transaction timeline to identify a diverse set of leaders at the outset or bring already identified leaders into the spin-off process. These leaders can be included in the separation planning and execution process, allowing them to contribute to key decisions, particularly for SpinCo.
3. Prioritize reporting and metrics tracking to develop a stronger quantitative connection between diversity and performance.
4. Develop clear and transparent communications regarding leadership appointment and talent selection, providing early and frequent visibility to appointed leaders and clarity on the selection decisions.

A diverse leadership team can add value by bringing new perspectives to both RemainCo and SpinCo, but CEOs and their teams need to make this a priority in the planning process to help make sure that both organizations have the leadership mix they need.