research paper
Submitted to Management Science manuscript MS-10-01142.R2
Governance and CEO turnover:
Do something or do the right thing?*
Ray Fisman
Columbia University, 823 Uris Hall, New York NY 10027 rf250@columbia.edu
Rakesh Khurana
Harvard University, Boston MA 02163, rkhurana@hbs.edu
Matthew Rhodes-Kropf
Harvard University, Boston MA 02163, mattrk@hbs.edu
Soojin Yim
Emory University, 1300 Clifton Road, Atlanta, GA 30322, soojinyim@emory.edu
We study how corporate governance affects firm value through the decision of whether to fire or retain the
CEO. We present a model in which weak governance - which prevents shareholders from controlling the board - protects inferior CEOs from dismissal, while at the same time insulates the board from pressures by biased or uninformed shareholders. Whether stronger governance improves retain/replace decisions depends on which of these effects dominates. We use our theoretical framework to assess the effect of governance on the quality of firing and hiring decisions using data on the CEO dismissals of large U.S. corporations during 1994-2007. Our findings are most consistent with a beneficent effect of weak governance on CEO dismissal decisions, suggesting that insulation from shareholder pressure may allow for better long-term decision-making. 1.
Introduction
From Adam Smith (1776) and Berle and Means (1932) to Hermalin and Weisbach (1998), economists have expressed concern about entrenched CEOs’ ability to pursue personal gain at the expense of shareholders. The prevailing belief is that firms risk value destruction by self-serving
CEOs, if they are left unchecked by weak boards or weak shareholders.
At the same time, many companies have actively chosen to weaken shareholders’ powers with the explicit aim of ensuring that long-term profits are maximized. Most recently, Facebook, LinkedIn, and Groupon completed initial public offerings (IPOs) with dual class share structures—with
* We thank Ren´e Adams,
Governance and CEO turnover:
Do something or do the right thing?*
Ray Fisman
Columbia University, 823 Uris Hall, New York NY 10027 rf250@columbia.edu
Rakesh Khurana
Harvard University, Boston MA 02163, rkhurana@hbs.edu
Matthew Rhodes-Kropf
Harvard University, Boston MA 02163, mattrk@hbs.edu
Soojin Yim
Emory University, 1300 Clifton Road, Atlanta, GA 30322, soojinyim@emory.edu
We study how corporate governance affects firm value through the decision of whether to fire or retain the
CEO. We present a model in which weak governance - which prevents shareholders from controlling the board - protects inferior CEOs from dismissal, while at the same time insulates the board from pressures by biased or uninformed shareholders. Whether stronger governance improves retain/replace decisions depends on which of these effects dominates. We use our theoretical framework to assess the effect of governance on the quality of firing and hiring decisions using data on the CEO dismissals of large U.S. corporations during 1994-2007. Our findings are most consistent with a beneficent effect of weak governance on CEO dismissal decisions, suggesting that insulation from shareholder pressure may allow for better long-term decision-making. 1.
Introduction
From Adam Smith (1776) and Berle and Means (1932) to Hermalin and Weisbach (1998), economists have expressed concern about entrenched CEOs’ ability to pursue personal gain at the expense of shareholders. The prevailing belief is that firms risk value destruction by self-serving
CEOs, if they are left unchecked by weak boards or weak shareholders.
At the same time, many companies have actively chosen to weaken shareholders’ powers with the explicit aim of ensuring that long-term profits are maximized. Most recently, Facebook, LinkedIn, and Groupon completed initial public offerings (IPOs) with dual class share structures—with
* We thank Ren´e Adams,
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