This content is from: Corner Office
CEOs Are Gaining Power Through Sheer Luck, Study Finds
“Power for luck is primarily driven by firms with weaker governance,” according to new research.
Chief executive officers are getting the benefit of luck as they struggle with their boards for power, according to new research from the University of North Carolina at Chapel Hill.
Luck — or exogenous shocks to performance such as markets conditions that are beyond the control of CEOs — should be filtered out by boards under standard economic theory, Turk Al Sabah, a researcher with UNC at Chapel Hill said in a preliminary draft of a paper this month. But contrary to the theory’s prediction that company heads should be assessed for their skillful performance, “we find that CEOs are rewarded power for luck.”
Chief executives seeking to entrench their power following strong market performance are more likely to succeed at companies with weaker governance, according to the paper. Moreover, CEOs aren’t punished for bad luck to the same extent that they are rewarded for good luck, the study found.
“Power for luck is primarily driven by firms with weaker governance in terms of board structure and institutional ownership,” Al Sabah said. “CEOs have some insulation from bad luck, while reaping the full benefits of good luck.”
[II Deep Dive: The Power of Social Media in Predicting Stock Returns]
Powerful chief executives can regularly make “crucial decisions” despite resistance from board members and other company executives, according to the paper. They may exert their influence through a company’s organizational structure, holding multiple titles within its hierarchy of power.
While long-tenured CEOs arguably have proven their skills through good times and bad, boards tend to pay closer attention to the performance of new CEOs in a recession, the research found.
“The power of new CEOs is insensitive to luck when markets are performing well but is drastically affected by luck in a recession,” Turk Al Sabah wrote. “This could imply that boards are receiving informative signals about the quality of new CEOs during bad times.”
CEOs are rewarded more power due to luck as their tenure increases, the study found.
When markets boom, boards may try to keep CEOs on board by offering them more power, Al Sabah said. Shareholders may be paying less attention to corporate governance in good times, he added, as CEOs seize the opportunity to gain power following “good absolute performance” coinciding with positive stock market performance.
There’s another possible explanation for the power-for-luck relationship, even if it’s not the strongest argument based on Al Sabah’s research.
“Boards may just be unable to distinguish between luck and firm-specific performance,” he said.