Findings

Value Added

Kevin Lewis

December 04, 2009

In Charisma We Trust: The Effects of CEO Charismatic Visions on Securities Analysts

Angelo Fanelli, Vilmos Misangyi & Henry Tosi
Organization Science, November-December 2009, Pages 1011-1033

Abstract:
Using a thematic text analysis of the initial letters to shareholders following a CEO succession event, we analyze whether CEO charismatic visions portrayed in this organizational discourse influence securities analysts' recommendations and forecasts. The results suggest that such projections of CEO charismatic visions are associated with the favorability of individual analyst recommendations and the uniformity of recommendations across analysts, but they also appear to be positively related to errors in individual analysts' forecasting of future firm performance.

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A Little Help Here? Board Control, CEO Social Identification with the Corporate Elite, and CEO Tendencies to Provide Strategic Help to CEOs at Other Firms

Michael McDonald & James Westphal
Academy of Management Journal, forthcoming

Abstract:
This study contributes to the corporate governance literature by demonstrating how greater board of director control of management at a given firm can have unanticipated adverse effects on the leadership of other companies. We specifically show that greater board control is reducing affected CEOs' willingness to provide various forms of strategic help (e.g., advice on strategic issues) to other CEOs, making it more difficult for other-company CEOs to access assistance on strategic matters that would otherwise enhance their firm's performance. Our theory and results indicate that these effects are mediated by CEOs' reduced social identification with the corporate elite.

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What is Fair Pay for Executives? An Information Theoretic Analysis of Wage Distributions

Venkat Venkatasubramanian
Entropy, December 2009, Pages 766-781

Abstract:
The high pay packages of U.S. CEOs have raised serious concerns about what would constitute a fair pay. Since the present economic models do not adequately address this fundamental question, we propose a new theory based on statistical mechanics and information theory. We use the principle of maximum entropy to show that the maximally fair pay distribution is lognormal under ideal conditions. This prediction is in agreement with observed data for the bottom 90%-95% of the working population. The theory estimates that the top 35 U.S. CEOs were overpaid by about 129 times their ideal salaries in 2008. We also provide an insight of entropy as a measure of fairness, which is maximized at equilibrium, in an economic system.

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What Wall Street Wants - Exploring the Role of Security Analysts in the Evolution and Spread of Management Concepts

Alexander Nicolai, Ann-Christine Schulz & Thomas Thomas
Journal of Management Studies, January 2010, Pages 162-189

Abstract:
This paper discusses the role of security analysts in the dissemination of popular management concepts, drawing on neo-institutional and management fashion theory. Focusing on the core competence concept, we investigate whether security analysts swing with the popularity of a management concept or serve as a corrective that secures the rationality of managerial actions. Through our analysis, which uses data for US-based firms spanning the period 1990-2002, we show that during the 1990s analysts systematically overvalued the future earnings of refocusing firms that incorporated principles derived from the core competence concept. Moreover, we present evidence that their valuations were positively influenced by the popularity of the core competence discourse and exhibited a systematic bias. Our results suggest a more nuanced understanding of the dynamics underlying the popularization processes of management concepts. In addition to the classical bandwagon-effects discussed in neo-institutional theory, we argue that the mediating role of security analysts and their impact on stock-market prices promote the diffusion of new management concepts.

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Why "Good" Firms Do Bad Things: The Effects of High Aspirations, High Expectations and Prominence on the Incidence of Corporate Illegality

Yuri Mishina, Bernadine Dykes, Emily Block & Timothy Pollock
Academy of Management Journal, forthcoming

Abstract:
Researchers have long argued that the potential costs of getting caught breaking the law decrease a high-performing firm's need and desire to engage in illegal activities. However, the recent history of high-profile corporate scandals involving prominent and high-performing firms casts some doubt on these assertions. In this study, we explain this paradoxical organizational phenomenon by using theories of loss aversion and hubris to examine the propensity of a sample of S&P 500 manufacturing firms to engage in illegal behavior. Our results demonstrate that both performance above internal performance aspirations and performance above external expectations increase the likelihood a firm will engage in illegal activities, and that the prominence of these firms further enhances the effects of performance above expectations on the likelihood they engage in illegal actions. We also find that prominent and less prominent firms display different patterns of behavior when their performance fails to meet aspirations.

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Private Cops on the Fraud Beat: The Limits of American Business Self-Regulation, 1895-1932

Edward Balleisen
Business History Review, Spring 2009

Abstract:
From the late 1890s through the 1920s, a new set of nonprofit, business-funded organizations spearheaded an American campaign against commercial duplicity. These new organizations shaped the legal terrain of fraud, built massive public-education campaigns, and created a private law-enforcement capacity to rival that of the federal government. Largely born out of a desire among business elites to fend off proposals for extensive regulatory oversight of commercial speech, the antifraud crusade grew into a social movement that was influenced by prevailing ideas about social hygiene and emerging techniques of private governance. This initiative highlighted some enduring strengths of business self-regulation, such as agility in responding to regulatory problems; it also revealed a weakness, which was the tendency to overlook deceptive marketing when practiced by firms that were members of the business establishment.

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Regulating Bankers' Pay

Lucian Bebchuk & Holger Spamann
Georgetown Law Journal, forthcoming

Abstract:
This paper contributes to understanding the role of executive compensation as a possible cause of the current financial crisis, to assessing current legislative and regulatory attempts to discourage bank executives from taking excessive risks, and to identifying how bankers' pay should be reformed and regulated going forward. Although there is now wide recognition that bank executives' decisions might have been distorted by the short-term focus of pay packages, we identify a separate and critical distortion that has received little attention. Because bank executives have been paid with shares in bank holding companies or options on such shares, and both banks and bank holding companies issued much debt to bondholders, executives' payoffs have been tied to highly levered bets on the value of the capital that banks have. These highly levered structures gave executives powerful incentives to take excessive risks. We show that current legislative and regulatory attempts to discourage bank executives from taking excessive risks fail to address this identified distortion. In particular, adopted and proposed measures aimed at aligning the interests of executives tightly with those of the common shareholders of bank holding companies - through emphasizing awards of restricted common shares in these companies and introducing "say on pay" votes by these shareholders - do not eliminate the divergence between executives' interests and the aggregate interests of all those with a stake in the bank. The common shareholders of bank holding companies, especially now that the value of their investment has decreased considerably, would favor different strategies than that would be in the interest of the government as preferred shareholder and guarantor of some of the bank's obligations. Finally, having identified the problems with current legislative and regulatory attempts, we analyze how best to implement recent legislative mandates that require banks receiving TARP funding to eliminate incentives to take excessive risks. Beyond banks receiving governmental support, we argue that monitoring and regulating bankers' pay should be an important element of banking regulation in general, and we analyze how banking regulators should assess and regulate bankers' pay.

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Shareholder Activism in the Obama Era

Stephen Bainbridge
UCLA Working Paper, July 2009

Abstract:
The financial crisis of 2008 and the ascendancy of the Democratic Party in Washington have created an environment in which proponents of expanded shareholder corporate governance rights are making considerable progress. Even before the crisis hit, of course, there had been a number of efforts to extend the shareholder franchise, principally so as to empower institutional investors. The crisis, however, has given them new momentum. The logic behind the shareholder empowerment project is that institutional investors will behave quite differently than dispersed individual investors. Because they own large blocks, and have an incentive to develop specialized expertise in making and monitoring investments, institutional investors could play a far more active role in corporate governance than dispersed individual investors traditionally have done. Institutional investors holding large blocks thus have more power to hold management accountable for actions that do not promote shareholder welfare. Their greater access to firm information, coupled with their concentrated voting power, might enable them to more actively monitor the firm's performance and to make changes in the board's composition when performance lagged. In fact, however, institutional investor activism is rare and limited primarily to union and state or local public employee pensions. As a result, institutional investor activism has not - and cannot - prove a panacea for the pathologies of corporate governance. Activist investors pursue agendas not shared by and often in conflict with those of passive investors. Activism by investors undermines the role of the board of directors as a central decision-making body, thereby making corporate governance less effective. Finally, relying on activist institutional investors will not solve the principal-agent problem inherent in corporate governance but rather will merely shift the locus of that problem.

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The routine may be stable but the advantage is not: Competitive implications of key employee mobility

Federico Aime, Scott Johnson, Jason Ridge & Aaron Hill
Strategic Management Journal, January 2010, Pages 75-87

Abstract:
We extend our theoretical understanding of the effect of key employee mobility on organizational performance. We find that when an organization with an advantageous set of routines loses a key employee to a competitor, the advantaged organization's competitive position is reduced vis-à-vis the hiring competitor. What is more interesting is that we also show that the diffusion of an advantageous set of routines through the mobility of key employees may affect competitive advantage in at least two additional ways. Our findings result from an analysis of 412 competitive events between the San Francisco 49ers and all other teams in the National Football League during the 24-year period when the San Francisco 49ers perfected the routines of a strategic innovation that has become known as the West Coast Offense. First, we find that there is a loss of advantage for the organization when competitors increasingly compete against additional organizations that hired key employees from it. Second, we find that there is a loss of advantage for the organization when competitors expect future competition against additional organizations that hired key employees from it. Our results challenge the traditional argument that socially complex routines create sustainable competitive advantages because they are not easily imitated and do not rely on any single individual. Instead, we show that routines are stable to the loss of key employees, but the advantages derived from them are not.

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A Matter of Appearances: How Corporate Leaders Manage the Impressions of Financial Analysts about the Conduct of Their Boards

James Westphal & Melissa Graebner
Academy of Management Journal, forthcoming

Abstract:
We examine how and when corporate leaders manage stakeholder impressions about board behavior. Our theory and findings suggest that negative stock analyst appraisals prompt influential corporate leaders to increase externally-visible dimensions of board independence without actually increasing the board's tendency to control management. We also consider how relatively negative analyst appraisals may prompt CEOs to engage in verbal impression management in their interpersonal communications with analysts, whereby they attest to their board's tendency to monitor and control management on behalf of shareholders. We also find that these increases in formal board independence, in combination with verbal impression management toward analysts, result in more favorable subsequent analyst appraisals of the firm, despite a lack of effect on actual board control.

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Managing for stakeholders, stakeholder utility functions, and competitive advantage

Jeffrey Harrison, Douglas Bosse & Robert Phillips
Strategic Management Journal, January 2010, Pages 58-74

Abstract:
A firm that manages for stakeholders allocates more resources to satisfy the needs and demands of its legitimate stakeholders than would be necessary to simply retain their willful participation in the firm's productive activities. We explain why this sort of behavior unlocks additional potential for value creation, as well as the conditions that either facilitate or disrupt the value-creation process. Firms that manage for stakeholders develop trusting relationships with them based on principles of distributional, procedural, and interactional justice. Under these conditions, stakeholders are more likely to share nuanced information regarding their utility functions, thereby increasing the ability of the firm to allocate its resources to areas that will best satisfy them (thus increasing demand for business transactions with the firm). In addition, this information can spur innovation, as well as allow the firm to deal better with changes in the environment. Competitive advantages stemming from a managing-for-stakeholders approach are argued to be sustainable because they are associated with path dependence and causal ambiguity. These explanations provide a strong rationale for including stakeholder theory in the discussion of firm competitiveness and performance.

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Time banditry: Examining the purloining of time in organizations

Laura Martin, Meagan Brock, Ronald Buckley & David Ketchen
Human Resource Management Review, March 2010, Pages 26-34

Abstract:
Time banditry, a variant of counterproductive work behavior, is defined as the propensity of employees to engage in non-work related activities during work time. We extend past research on time banditry in two ways. First, we develop a model of time banditry. It is posited that a significant number of employees engage in time banditry despite their level of engagement with their job and even when productivity levels remain at an acceptable level. Implications of the model are described and testable propositions are developed. Second, we suggest that time bandits as a group are not monolithic, but instead there are at least four types of bandits. Supervisors need to manage each type with different human resource management practices.

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The Wages of Failure: Executive Compensation at Bear Stearns and Lehman 2000-2008

Lucian Bebchuk, Alma Cohen & Holger Spamann
Harvard Working Paper, November 2009

Abstract:
The standard narrative of the meltdown of Bear Stearns and Lehman Brothers assumes that the wealth of the top executives of these firms was largely wiped out along with their firms. In the ongoing debate about regulatory responses to the financial crisis, commentators have used this assumed fact as a basis for dismissing both the role of compensation structures in inducing risk-taking and the potential value of reforming such structures. This paper provides a case study of compensation at Bear Stearns and Lehman during 2000-2008 and concludes that this assumed fact is incorrect. We find that the top-five executive teams of these firms cashed out large amounts of performance-based compensation during the 2000-2008 period. During this period, they were able to cash out large amounts of bonus compensation that was not clawed back when the firms collapsed, as well as to pocket large amounts from selling shares. Overall, we estimate that the top executive teams of Bear Stearns and Lehman Brothers derived cash flows of about $1.4 billion and $1 billion respectively from cash bonuses and equity sales during 2000-2008. These cash flows substantially exceeded the value of the executives' initial holdings in the beginning of the period, and the executives' net payoffs for the period were thus decidedly positive. The divergence between how the top executives and their shareholders fared implies that it is not possible to rule out, as standard narratives suggest, that the executives' pay arrangements provided them with excessive risk-taking incentives. We discuss the implications of our analysis for understanding the possible role that pay arrangements have played in the run-up to the financial crisis and how they should be reformed going forward.

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Failing to Learn? The Effects of Failure and Success on Organizational Learning in the Global Orbital Launch Vehicle Industry

Peter Madsen & Vinit Desai
Academy of Management Journal, forthcoming

Abstract:
It is unclear whether the common finding of improved organizational performance with increasing organizational experience is driven by learning from success, learning from failure, or some combination of the two. We disaggregate these types of experience and address their relative (and interactive) effects on organizational performance in the orbital launch vehicle industry. We find that organizations learn more effectively from failures than successes, that knowledge from failure depreciates more slowly than knowledge from success, and that prior stocks of experience and the magnitude of failure influence how effectively organizations can learn from various forms of experience.

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Aligning Ambition and Incentives

Alexander Koch
Journal of Law, Economics, and Organization, forthcoming

Abstract:
Labor turnover creates longer term career concerns incentives that motivate employees in addition to the short-term monetary incentives provided by the current employer. We analyze how these incentives interact and derive implications for the design of incentive contracts and organizational choice. The main insights stem from a trade-off between "good monetary incentives" and "good reputational incentives." We show that the principal optimally designs contracts to create ambiguity about agents' abilities. This may make it optimal to contract on relative performance measures, even though the extant rationales for such schemes are absent. Linking the structure of contracts to organizational design, we show that it can be optimal for the principal to adopt an opaque organization where performance is not verifiable, despite the constraints that this imposes on contracts.

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The Elephant in the Room: Labor Market Influences on CEO Compensation

Ingrid Smithey Fulmer
Personnel Psychology, Winter 2009, Pages 659-695

Abstract:
Although the "war for talent" at the executive level should theoretically have implications for executive pay, labor market competition and CEO career considerations have not been the focus of much executive compensation research to date. In this study, I utilize a multitheoretical perspective to examine the determinants of CEO annual compensation, with particular attention to external labor market factors and also to executive characteristics (e.g., experience and performance trajectory) that are conventionally believed to increase the labor market attractiveness (and alternative employment opportunities) of CEOs. In a sample of publicly traded firms, I find that these labor market-related factors and characteristics explain additional variance in annual pay beyond that predicted by firm size, annual performance, board composition, risk, and measures of CEO power, and that the variance explained by labor market variables is of a magnitude comparable to that explained by many of these more commonly studied variables. Results are consistent with the idea that corporate boards design CEO pay with retention concerns in mind: Total pay and stock option grant levels are strongly influenced by competitors' pay levels, and CEOs who are especially likely to be "raided" receive higher pay in some cases and, in other cases, have less risky (weaker) annual firm performance-pay relationships.

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Do Buyouts (Still) Create Value?

Shourun Guo, Edith Hotchkiss & Weihong Song
Journal of Finance, forthcoming

Abstract:
We examine whether, and how, leveraged buyouts from the most recent wave of public to private transactions created value. For a sample of 192 buyouts completed between 1990 and 2006, we show that these deals are somewhat more conservatively priced and less levered than their predecessors from the 1980s. For the subsample of deals with post-buyout data available, median market and risk adjusted returns to pre- (post-) buyout capital invested are 72.5% (40.9%). In contrast, gains in operating performance are either comparable to or slightly exceed those observed for benchmark firms. Increases in industry valuation multiples and realized tax benefits from increasing leverage while private are each economically as important as operating gains in explaining realized returns.

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Perverse Incentives at the Banks? Evidence from a Natural Experiment

Sumit Agarwal & Hefei Wang
Federal Reserve Bank Working Paper, October 2009

Abstract:
Incentive provision is a central question in modern economic theory. During the run up to the financial crisis, many banks attempted to encourage loan underwriting by giving out incentive packages to loan officers. Using a unique data set on small business loan officer compensation from a major commercial bank, we test the model's predictions that incentive compensation increases loan origination, but may induce the loan officers to book more risky loans. We find that the incentive package amounts to a 47% increase in loan approval rate, and a 24% increase in default rate. Overall, we find that the bank loses money by switching to incentive pay. We further test the effects of incentive pay on other loan characteristics using a multivariate difference-in-difference analysis.

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Managerial Compensation and Private Foundation Performance

Arthur Allen & Brian McAllister
University of Nebraska Working Paper, September 2009

Abstract:
We investigate the relationship between private foundation performance and managerial pay. Private foundations are an unusual organizational form in that after the death of the founder, there are no donors or other external constituencies with the power and incentives to discipline management. Therefore, we expect that the pay-performance relationship may be negative. Because the purpose of a private foundation is to generate investment returns to be distributed to charities, we examine investment performance as well as administrative efficiency. Using a large sample of U.S. foundations over the period 1997-2005, we document that the relationship between pay and performance is negative in both levels and changes models and for both administrative and investment performance. Our findings contrast with studies investigating public charities and for-profit organizations which have generally found a positive pay-performance relationship. Our evidence suggests that foundations are often poorly monitored and foundation managers are often rewarded for poor performance. We discuss potential implications for policy makers concerned about foundation governance.

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Unstable banking

Andrei Shleifer & Robert Vishny
Journal of Financial Economics, forthcoming

Abstract:
We propose a theory of financial intermediaries operating in markets influenced by investor sentiment. In our model, banks make, securitize, distribute, and trade loans, or they hold cash. They also borrow money, using their security holdings as collateral. Banks maximize profits, and there are no conflicts of interest between bank shareholders and creditors. The theory predicts that bank credit and real investment will be volatile when market prices of loans are volatile, but it also points to the instability of banks, especially leveraged banks, participating in markets. Profit-maximizing behavior by banks creates systemic risk.


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