Rice study shows why more than 25 percent of new CEOs last less than 3 years

June 3, 2008

An increasing number of CEOs are exiting their positions prematurely, according to a study by Yan Zhang at Rice University's Jones Graduate School of Management. Of the 204 company leaders Zhang studied from 1993 to 1998, 55 (27 percent) left their job within three years.

Zhang's study, "Information Asymmetry and the Dismissal of Newly Appointed CEOs: An Empirical Investigation," finds that these dismissals may be due to the effects of information asymmetry -- a situation where one party knows less inside information than the other. In the instance of CEO selection, the board of directors of the hiring firm knows less than the CEO candidates regarding the candidates' true competencies. As a result, it is possible that the board makes a faulty hire and then dismisses the CEO shortly after the succession.

Unbalanced information can negatively impact the selection of a new chief executive in three ways. The first concerns the origin of the new CEO — whether he or she was an internal or external candidate. The second is the context of the preceding CEO's departure — whether it was a voluntary departure or a dismissal. And the third is the composition of the board of directors' nominating committee — whether they are primarily in-house or independent directors and whether they serve on a number of other boards.

The origin of the new CEO is important because inside candidates are typically already chief financial officers, chief operating officers or executive vice presidents with the company, said Zhang, associate professor of management at Rice.

"They would have had numerous opportunities to interact with the board members," Zhang said. "The board has a great opportunity to know inside candidates, thus reducing information asymmetry between the board and inside candidates."

Meanwhile, the board is less likely to know outside candidates and more likely to make a poor hiring decision in outside successions.

The conditions of the preceding CEO's departure also play a tremendous role in the success of the next chief executive, Zhang said. Because many companies institute mandatory retirement ages, planned succession can help ease a seamless transition, as a company can groom an heir apparent before the CEO departs. Also, if the company doesn't have a good pipeline of talent, the board can search in advance of the retirement -- making it more likely that a comprehensive internal and external search will turn up higher-quality candidates. However, if the preceding CEO is dismissed, then inadequate preparation means higher information asymmetry and a higher likelihood that the board will make a poor hiring decision.

The composition of the board's nominating committee may have an influential effect on early CEO dismissals. Nominating committees that are primarily independent (not consisting of company executives) are better than those with internal directors, because the latter may perceive themselves as contenders for the position.

"They're not going to bring objective evaluations to the CEO selection process," Zhang said. "However, if a company has outside directors on the board and those outside directors are too busy — having too many other directorships — then the nominating committee is not as effective."

Source: Rice University

Explore further: Companies hope cybersecurity experts in the boardroom can counter hacks

Related Stories

Traffic-management website for drones

August 21, 2015

A pioneering website designed to prevent collisions and crashes among the rapidly growing number of drone aircraft has been developed by the Wright State Research Institute (WSRI).

Stolen data finder could reduce harm for companies

June 8, 2015

Business owners don't need IT skills to understand that data breaches are serious. Certainly big names in retail and health care know by experience that such breaches have serious after-effects. Breaches have an impact on ...

Reddit out to tame its wild side

July 17, 2015

Popular online bulletin board Reddit is mulling ways to make its free-for-all discussions more civil by restraining what people can post, a move that could anger some of the site's most passionate members.

Recommended for you

Early human diet explains our eating habits

August 31, 2015

Much attention is being given to what people ate in the distant past as a guide to what we should eat today. Advocates of the claimed palaeodiet recommend that we should avoid carbohydrates and load our plates with red meat ...

Just how good (or bad) is the fossil record of dinosaurs?

August 28, 2015

Everyone is excited by discoveries of new dinosaurs – or indeed any new fossil species. But a key question for palaeontologists is 'just how good is the fossil record?' Do we know fifty per cent of the species of dinosaurs ...

Fractals patterns in a drummer's music

August 28, 2015

Fractal patterns are profoundly human – at least in music. This is one of the findings of a team headed by researchers from the Max Planck Institute for Dynamics and Self-Organization in Göttingen and Harvard University ...

0 comments

Please sign in to add a comment. Registration is free, and takes less than a minute. Read more

Click here to reset your password.
Sign in to get notified via email when new comments are made.