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CEOs who identify with their companies shun outsized cash and perks

June 1, 2011

For more information, contact: Benjamin Haimowitz, HHaimowitz@aol.com

Among grievances of activist shareholders, two that rank among the highest are overpaid CEOs and excessive CEO perks, particularly in companies that are lagging financially.
 
Should such abuses dictate sharply constraining CEO power in general? New research suggests that the issue is more complicated than that.
 
The research, consisting of a study in the current issue of The Academy of Management Journal and a follow-up paper to be presented at the Academy's annual meeting in August, finds that such abuses are alien to the many corporate chiefs who identify with their companies -- as many as 40% of CEOs.And these chiefs tend to enjoy broad autonomy rather than being saddled with boards that rein them in closely.
 
In the words of the researchers, "The CEO who identifies strongly with the firm will find it more difficult to justify to him/herself personal enrichment at relatively low levels of performance." Further, company policies "that entail structural limitations on the CEO's ability to exercise autonomous control may have the side effect of diminishing organizational identification, and therefore paradoxically may work at cross purposes with [good-governance] goals."
 
What difference does it make whether a CEO identifies strongly with the company? In firms with below-average financial performance, chiefs who strongly agreed with the statement "Being a member of [company] is a major part of who I am" averaged close to a million dollars less in annual cash compensation than those who only somewhat agreed or somewhat disagreed with that statement. In addition, they racked up 72% less in flight costs on the corporate jet, a CEO perk notorious for raising the ire of activist shareholders.
 
In the words of the journal study, "a greater interconnection between the CEO's identify and the firm's identity leads the CEO to do what is right for the firm, because helping the firm is tantamount to helping him/herself."
 
The research was carried out by Steven Boivie of the University of Arizona, Donald Lange of Arizona State University, and James D. Westphal of the University of Michigan, with Michael L. McDonald of the University of Texas at San Antonio also contributing to the journal paper.
 
The two studies break new ground by exploring an aspect of corporate governance that has previously received little attention -- namely, "psychological factors that have the potential to influence a CEO's predisposition to avoid actions that harm the organization and its image, even in the absence of external controls."
 
Comments Prof. Lange: "There is nothing new in the notion that shareholders and managers are not necessarily at odds with each other and that corporate governance should largely be based on the idea that their interests coincide. Scholars call this stewardship theory. Our study gets down to particulars, probing how common it is for CEOs to identify with their companies (as good stewards would be expected to do) and what difference this makes for corporate governance."
 
To find out, the professors surveyed 793 CEOs of companies that ranked among the 2,000 largest US firms. The heart of the survey was a series of statements that assessed the chiefs' identification with their firms -- for example, "When someone criticizes [company] it feels like a personal insult," or "When I talk about [company] I often say 'we' rather than 'they,' " or "If a story in the media criticized [company], I would feel embarrassed, whether or not I know explore the person." CEOs were asked to respond to each statement with one of five choices ranging from 1 (strongly disagree) to 5 (strongly agree).
 
In response to the statement that framed the matter most directly ("Being a member of [company] is a major part of who I am"), 13% of the CEOs strongly agreed, 28% somewhat agreed, 30% neither agreed or disagreed, 21% somewhat disagreed, and 8% strongly disagreed.
 
In other words, the largest number of CEOs, more than 40%, said they personally identified with their companies, almost one third of this group identifying strongly.
 
The professors found that the more CEOs identified with their firms, the lower their cash compensation -- and most particularly in firms that were lagging financially. In the words of the study, "CEOs with higher levels of organizational identification are less likely to exert their influence to secure high levels of cash compensation in the wake of relatively low firm performance."
 
A similar pattern obtained for the use of corporate jets, as disclosed in corporate proxy statements: the more CEOs identified with the company, the less personal use they made of the planes -- and especially so in poorly performing firms.
 
The professors also explored how CEOs' cash compensation and corporate-jet use were related to board independence, as gauged by such factors as whether someone other than the CEO was board chairman and how small a proportion of directors had business ties to the company or friendship ties to the CEO. They found that, for their full sample of 793 firms, board independence and CEO organizational identification had similar constraining effects on CEOs. But the effect of the former was considerably weakened in the presence of the latter.
 
Comments Prof. Lange: "Obviously, not all chiefs are going to do right by their shareholders purely on their own, so that board vigilance is often necessary. After all, only about 40% of our sample identified with their companies. What the research also suggests, though, is that, when CEOs do identify with the company, intrusiveness by the board is likely to be redundant and even counterproductive."
 
And such monitoring, he adds, can be expensive. In the words of the journal study, "Vigilant monitoring consumes time and energy from outside directors, can contribute to conflict and a breakdown of communication between the CEO and directors, and can limit the beneficial aspects of CEO autonomy in decision-making. Our study suggests that, because social identification reduces the needs for external controls, the overall cost of control mechanisms can be lowered."
 
Unfortunately for the cause of good corporate governance, determining to what extent CEOs identify with their companies (or job candidates for CEO are likely to do so) is something about which most corporate directors appear to be in the dark. Thus, in response to the question "To what extent does the CEO identify with the organization, such that the CEO's self-image overlaps with [the organization's]?" 93% of directors surveyed by the professors answered "not sure," and 95% indicated that it was "hard for me to assess." As the professors observe, such findings "suggest that boards, independent or otherwise, do not actively screen for CEOs with high organizational identification or with potential to develop high organizational identification."
 
While the new research does not grapple with this problem, Prof. Lange offers some recruitment suggestions based on other management studies. "Even something as simple as an individual's tendency to refer to past organizations in terms of 'we' rather than 'I' can be revealing," he says. "In general, boards would be advised to seek candidates who have demonstrated a strong connection with their current firm's identity, as evidenced by their positive evaluations of the company and its people, their competitiveness with other firms, and their general attitudes about organizational citizenship."
 
The Academy of Management Journal study, entitled "Me or We: The Effects of CEO Organizational Identification on Agency Costs," is in the publication's June/July issue. The peer-reviewed journal is published every other month by the Academy, which, with about 19,000 members in 103 countries, is the largest organization in the world devoted to management research and teaching. The Academy's 2011 annual meeting is scheduled for August 12-16 in San Antonio, Texas.
Media Coverage:
The Globe & Mail. CEOs who identify with firm less likely to abuse perks. (Monday, August 08, 2011).

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