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Wall St more skeptical than boards about star execs, study finds, as exorbitant pay for high-status CEOs fails to reckon with burden of celebrity

September 1, 2006

For more information, contact: Benjamin Haimowitz,

What is the value of a star in the corner office? Defenders of lavish CEO pay argue that companies must pay the most to get the best.

Yet, now a study involving scores of America's most highly regarded chiefs (list available) raises doubts about the very executives likely to be most zealously sought and most sumptuously paid.

And it finds those doubts strongly shared on Wall St.

Focusing on executives who achieve the top rankings in a prestigious national contest for "CEO of the Year," the study in the new Academy of Management Journal finds that, although winners wind up with substantial boosts in pay, their companies enjoy less than stellar profits for the rest of the year and actually tend to suffer stock-price declines.

While news of the award produces positive blips in the companies' stock for a few days, "these effects quickly fade and appear to become negative over the subsequent months," write the study's co-authors, James B. Wade of Rutgers University, Joseph F. Porac of New York University, Timothy G. Pollock of Penn State, and Scott D. Graffin of the University of Georgia.

"Firms that employ star CEOs seem to have a higher expectational hurdle to meet in order to be valued positively by the market," they add, even though "boards of directors seem to be more lenient in their expectations [of firm performance]... 

"Overall, our results provide cautionary information for corporate pay policies," the professors conclude. "[T]he argument that boards of directors should pay exorbitant levels of compensation to attract and retain star CEOs whose firms have performed well in the past may be somewhat misplaced, especially given the heightened investor expectations that also seem to come with star status."

While the study investigates the aftermath of one particular contest -- the CEO of the Year competition run for many years by Financial World magazine -- the authors believe their findings to be applicable as well to other forms of recognition -- for example, highly favorable stories in the media. They cite earlier research by management scholars suggesting that flattering media coverage "could be detrimental to future firm performance by inducing overconfidence and hubris in CEOs anointed as stars." For example, one study "found that CEO hubris, as measured by recent media praise of the CEO, led to both payment of higher premiums for corporate acquisitions and higher shareholder losses from those acquisitions."

"I don't know if many investors are aware of those studies, but it certainly seems that they are, given the negative stock performance we saw in companies with award-winning chiefs," comments Rutgers' Prof. Wade. An alternative explanation for that negative performance, he says, "is what one scholar called 'the burden of celebrity,' the inherent difficulty for star CEOs in an ever-changing, fickle world to live up to their lofty reputations."

The study's findings derive from an analysis of CEO compensation and company financial performance among 278 firms in the S&P 500, many of them headed by recipients of Financial World awards. Between 1975 and 1996, the magazine conducted an annual contest to identify exemplary chief executives through yearly surveys of more than a thousand peer CEOs and business analysts. The chiefs were rated on a variety of financial and non-financial criteria, and those ranked highest were awarded bronze, silver, or gold medals, with the results publicized in the magazine's March issue.

The new research focuses on the five years 1992-96, because it was only in 1992 "that the SEC significantly increased its reporting requirements with respect to CEO pay policies." Among the 195 medal winners in the study's sample over those five years were some of the world's biggest corporate names, including Maurice Greenberg of American International Group, a medal recipient in all five years; Jack Welch of General Electric, a recipient in three years; Roberto Goizueta of Coca Cola, a four-time recipient; Eckhard Pfeiffer of Compaq, a recipient in three years; Stanley Gault of Goodyear, a recipient in four years; Lawrence Bossidy of Allied Signal, a two-time winner; and Robert Crandall of American Airlines, a recipient in two years.

The authors found that companies of award-winners were, on average, subsequently no more profitable than other firms in the sample -- neither in the remainder of the award year nor in subsequent years.

Stock-price performance was even less impressive. News of the awards resulted in a three-day positive blip in company stock price averaging one-half or two-thirds of one percent, depending on how the "abnormal return" was calculated. But in the months that followed, share prices of firms with award-winning CEOs merely kept pace with the S&P 500, while performing substantially worse than would be expected based on company risk profiles and stock returns in the months prior to the award announcements. On this basis, in fact, they suffered a decline of more than 8% in the eight months following the three-day bump-up accompanying the award announcement.

Despite these disappointing results in stock performance and profitability, honorees enjoyed considerable increases in total compensation -- on average 10% greater than non-winners for current-year recipients with an additional 5% differential for each medal in previous years.

A conspicuous exception to this pattern was found in companies that operated at a loss, in which case award-winning CEOs were penalized more than their less exalted peers. "This gauntlet is not very severe, however," the authors add, since companies in this group comprised the bottom 11 percent of the 278 firms in the sample in terms of financial performance, "suggesting that profitability need not be very high in order for CEOs to capitalize on their celebrity status."

"Investors are evidently a lot more skeptical about high-status awards than boards of directors," says NYU's Prof. Porac in summary. As to why this might be, he concedes that management scholars remain divided on the basic question of whether a firm's performance has more to do with the caliber of its top executives or with general economic and organizational conditions that bear little relationship to managerial competence. In contrast, boards seem little divided on this issue, at least according to a leading authority on executive compensation cited in the study as follows:

"A perennial debate in history circles centers on whether great men, like Napoleon, can really change the course of history, or alternatively, whether history unfolds in a mysterious process that is only marginally influenced by the Napoleons of the world. Ask your typical board of directors to jump into the debate among historians, and to a man...they will vote with the 'great man' camp. To them, it is self-evident that if you put the right person in the CEO's job and make sure he stays in the job, great results will ensue. And to make sure he stays in the job, pay him anything he requires, short of the entire sales volume of the company."

The study, entitled "The Burden of Celebrity: The Impact of CEO Certification Contests on CEO Pay and Performance," is in the August/September, 2006, issue of the Academy of Management Journal. This peer-reviewed publication, now in its 49th year, is published every other month by the academy, which, with about 17,000 members in 92 countries, is the largest organization in the world devoted to management research and teaching. The academy's other publications are the Academy of Management Review, Academy of Management Perspectives, and Academy of Management Learning and Educatio

Media Coverage:
Reuters. Star CEOs may not be worth their pay: report. (Friday, September 22, 2006).

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