Study: CEO effect on firm performance could be mostly due to chance | Hacker News Reader

Study: CEO effect on firm performance could be mostly due to chance

sciencedaily.com

143 pointssr_banksy67 comments

This is interesting, but there are so many things that can be at work that I'm not sure how much you can draw from this. For one, boards may elect CEOs that are good for what they need at that moment - when a company needs to handle a large merger, they may choose someone with experience in doing that for that industry and their talents may never be fully utilized after that. And a CEOs performance isn't likely to be homogeneous over time either - they may get better or worse over time. I guess your basic problem is that CEOs aren't selected by a random process. So if a board of directors always did a good job choosing the right CEO, why would you expect there to be big, statistical differences anyway?

I'm not also terribly clear on what sort of strength of effect the authors are looking for. A lot of people work for a company, are they trying to attribute all of a company's earnings to a single person? Or are they looking for a difference that is not very proportionate to what CEOs actually do.

I should also point out that "could be due to chance" isn't in itself very interesting. That means that with the methods and data the authors happened to use, they didn't happen to find a statistically significant effect, and while that could be because they don't have an effect it could also be that the tools used to look for one were simply not up to par.

That said, it's my understanding (and some experience) that the upper echelons of a lot of companies can be... a bit incestuous, cliquey, who-you-happen-to-know.

The "who-you-happen-to-know" part is very true. It's a small world up there in the "upper" tier. While I generally agree to the implications of chance, has much to do with that inner circle and who gets picked to do the job.

No one is perfect, and the upper tier do not seem to have a solid understanding of this fact. People get picked because they can talk the talk or had some success at some point and that automatically decides they are good. Even failing can increase your prestige for reasons such as learned from failure or the blame gets shifted. However, I feel that it's all too often that the CEO failed to adapt and shifted blame.

> I should also point out that "could be due to chance" isn't in itself very interesting. That means that with the methods and data the authors happened to use, they didn't happen to find a statistically significant effect, and while that could be because they don't have an effect it could also be that the tools used to look for one were simply not up to par.

My wife wrote had an analytical project when she was working on her masters in accounting. The thesis was correlation between CEO compensation vs Stock market performance. After two months of crunching data, she came to the realization that there was absolutely NO cofrelation. She was distraught by her data thinking she made a mistake so we re-crunched the numbers, attempted to find better samples data (larger range of top tier and lower tier companies), excluding financial companies from the data because of 2008 market and stock price, etc.

At the end, we realized that CEOs compensation has very little effect on stock market price over X amount of time. If you you can rationalize that stock price = CEO performance, then this would be agreeable with the article itself.

Yeah, I'd have to look into it deeper. It seems like a hard thing to demonstrate rigorously.

I've long called this the "Dr. John Theory of CEO's" - I was in the right place, but it must have been the wrong time.

Take McDonald's for example. Their stock was up a bunch yesterday on nice earnings, and everyone cheered that the new CEO's turnaround was seeing results. Yay! Except this is a global company with over 30,000 stores, and the new guy had only gotten the job in March. And magically, he gets 100% credit for the good news, even though all he can reasonably do as the CEO is tinker around (eg Egg McMuffins all day - yippee). Ditto Ruth Porat at Google, same thing. She had been on the job for all of seven weeks when Google reported great earnings, and when results were good everyone was like, "ZOMG RUTH IS INCREDIBLE!!" Or Marissa Mayer...the list is endless.

It's almost comical how lazy people are at attributing success and failure to executives who simply showed up at the right time and took credit for the inevitable.

Well maybe not inevitable. But likely no result of their effort. It could be normal seasonal change, or lagging result of the previous administrations' changes, or products in the pipeline gaining maturity. So yeah, this 'CEO Hero Worship' thing is deplorable. It's not new; been going on since I first noticed in the 80's.

As with anyone in leadership, supporters want to spread blame to predecessors. We see it in politics a lot, certainly.

Horrible CEOs absolutely can destroy value. Does anyone seriously question that?

Some level of "good" is probably table stakes. There's a lot of randomness then, especially for non-founder CEOs.

If bad CEOs are bad for company performance yet good CEOs have no effect on company performance, then is having a CEO all downside with no upside? What is the large company, public or private, that is run democratically without a CEO?

That's a possibility, if being a CEO is mainly a matter of not screwing up in some spectacular way, and not dipping your hand too deep into the cookie jar. Performance doesn't have to be a monotonic function passing through the origin.

There are other jobs like this: Surgeons, airline pilots, and tympanists. Maybe the skilled trades in general. Sure, the good ones may show their brilliance on rare occasions, but those don't happen often enough to show up in a statistical study. Mainly they need the training, practice, and self discipline to follow the correct procedures and get it right every time.

I'm thinking of an analogy, which virtually guarantees that it will be a bad one: A bad plumber would be bad for the performance of my house, but a good plumber can't really make my house perform any better. Yet I don't want plumbing to be run democratically in my house without a plumber. (Note: I'm the plumber in my house).

I like your analogy and I think it's got its merit. A good plumber might be able to solve a problem faster than an average one, though.

Yes, definitely. I am amazed by how quick the pro's are. There have been some jobs in my house that absolutely had to be leak tight on the first try, e.g., where a fixture is above a drywall ceiling. I've hired a plumber for those jobs.

If you look at it from the point of view of you, the homeowner, then you don't see a good plumber but merely a plumber that follows procedures so the job is done correctly. Likewise, you see a bad plumber that screwed up the job and flooded your house.

Perhaps the "good" part of being a good plumber is doing the job correctly every single time and not making mistakes. If this were the case then I'd argue you are a perfect plumber. At what point on the scale does a mistake or mistakes take you from good to bad? A plumber with a 90% success rate is, in my definition, a good plumber as the stakes are not as high. A surgeon or airline pilot, in my mind, must have a 100% success rate in order to be considered competent since lives are at stake. You'd be hard pressed to show that a former CEO that now has a different position at another company is not a CEO due to being a bad CEO as they likely wouldn't be hired at all for any high-level position.

To wrap this up, if there was still a plumber out there that was a bad plumber then I suspect he/she wouldn't be a plumber long enough to still get jobs.

A good plumber can make your house run better if they come up with a more efficient or innovative way of doing a process that you didn't think about but in your mind that wouldn't make them a good plumber but merely a plumber that follows processes and doesn't make mistakes. If not for mistakes then we may never find better ways of doing something.

>What is the large company, public or private, that is run democratically without a CEO?

It's structurally made virtually impossible to do such a thing. Nonetheless, this approach was successfully applied in Argentina. There's a good documentary about it http://www.thetake.org/

The closest example may be Visa International before it became a public company. Visa used to be a chaord, a strange organizational form dreamed up by Dee Hock. Visa was owned by banks who were competitors, and they needed for it to be a neutral intermediary. Hock wrote a book, "Birth of the Chaordic Age", on how this worked, but the idea never caught on.

I'd never heard of this - it's fascinating, but also has a rather Buckminster Fuller-esque '60s tang to it:

http://www.fastcompany.com/27333/trillion-dollar-vision-dee-...

And in case anyone wants to discuss chaords:

https://news.ycombinator.com/item?id=10443224

John Lewis, a department store and supermarket chain in the UK, is a bit like this:

http://www.theguardian.com/business/2012/jan/16/john-lewis-m...

That said, they do have a Chairman who is basically a CEO; he answers to the employees rather than shareholders, but i'm not sure how much that changes things.

And of course there's the Co-op, which is a patchwork of regional and national organisations under a common brand which between them provide a range of services so wide they're virtually a shadow state:

http://www.co-operative.coop/

I have no idea how they are actually run.

In theory, a company is run by the board and the CEO reports to the board. But most boards seem to be disconnected from day-to-day operations. Perhaps the both the board and CEO could be replaced with a "high council" or triumvirate, maybe including employees in rotating terms.

Or instead, just get a business manager trained at the local Community College, and call that good. Really, one of my CEOs just instituted reports for inventory and accounts receivable, and we turned around in 6 months. Just good business practice. Not a genius. But he got called that, in Silicon Valley magazines etc.

So 400x pay ratios are the modern day equivalent of sacrificing a lamb in the hope the gods will bring good fortune?

My accounting professor explicitly compared auditing to this kind of primitive religion.

Think of the "rainmaker" who brings the much needed rain for the tribes crops. You need to sacrifice an animal (that he eats) and do a big song and dance (to make it feel like you're doing something).

If the ritual succeeds, then the rainmaker has done his job!

If the ritual fails, then the sacrfice wasn't big enough, the dance wasn't long enough, people didn't believe enough. There's no allowance in the framework for the rainmaker to be blamed for being bad at his job.

And even if there was, he'd just be replaced with someone who was equaly powerless. But who wants to admit that their entire existance is outside of their own control?

I think of that lecture often, as a series of large companies collapses and no-one sees it coming.

> and no-one sees it coming

Perhaps no one at the top, or no one outside, but I'd be willing to bet a lot of lower-tier folks can often see the writing on the wall. I've been there myself a couple of times, and have had family members in similar situations.

I spent about 12 years as an employee in companies of various sizes in different industries. Purely anecdotally, I can tell you that sh*t rolls downhill. Bad people at the top make for unhappy teams and poor performance. The opposite is also true. The CEOs I respected most also inspired their teams to achieve the fastest growth.

I've worked for many companies large and small, and many CEOs in that time. There's not a single one of them I respected, at the time or upon reflection. Would you mind sharing a few names for the rest of us to study?

Jim Barksdale

i never worked for a startup i didn't like, which is lucky i suppose.

i left futureadvisor earlier this year to found my own company, but if i hadn't felt that itch, i would have stayed working with bo lu and jon xu for many years. they built a highly competent and deeply considerate group of people around a very popular product. (as a pr guy, it was easy to pitch...)

send me your email if you want more details: i'm at chris@skymind.io.

Ha! This is the opposite of my hypothesis that I blogged about a few days ago: Founder-CEO's outperform non-founder CEO's.

https://medium.com/nick-tommarello/my-strategy-for-investing...

They may both be true - this study was limited to the 1500 largest firms from 1993 to 2012. I'd guess the majority of those CEOs weren't founders.

If you wanted to do an interesting followup, repeat this authors analysis but compare results between founder CEOs and non-founder CEOs!

That would be a cool idea. But I'm not sure the numbers of founder-CEO companies are large enough to make any conclusive determination. If you are limiting it to tech, I'd think the outliers of Apple, Amazon, and Google would destroy the competition.

Apple, Amazon, Google, Facebook, Berkshire Hathaway, FedEx, News Corp, Oracle, Microsoft under Gates, Intel under Moore and Grove, ...

Perhaps you can do a similar study for owner-managed vs owners and managers being different persons (like in a public company).

Neat strategy. It would be interesting to actually browse through the study's data set and isolate Founder-CEO companies. If there's any conceivable link, then maybe that explains the 30%? However, I don't think there would be many founder CEOs within the dataset.

Difficult to correct for survivorship bias too (unless the study specifically did so - I couldn't get the full text)

Survival bias. Most founder CEOs go down with the ship before they get on your radar

Most of success in business are due to chance, contrary to popular myths.

But character matters also, it is, perhaps, second most important variable, but chance outweights everything. That's why people are saying that chance favours the prepared.

CEO compensation is as much voodoo as the compensation of managers of actively managed funds. They're all geniuses in up markets, but only a tiny minority beat the indices in the long haul, never mind being worth their fees.

I think the ones who use leverage do beat the indices over the long haul. Leveraged investments make more long term than stock indices.

Re headline

https://www.youtube.com/watch?v=TGTKN0DaxzQ

Usually more about the team, culture, motivating employees, marketing, and operations. CEO had little to do with any of this in almost every place I've ever worked.

Just a mathematical question : can we systematically distinguish randomly distributed luck from randomly distributed competence ‎?

If someone is competent, we can expect them to continue showing competence into the future. If it's just luck, we can expect their future performance to revert.

I'm not sure if it's enough when you study a group, during a finite time, if you don't know a priori the relative impact of competence compared to luck.

Example 1 : fictive world where everybody has 50% chance of success every year (success = 1 point). After 4 years the distribution looks like :

    0pt -> 1/16
    1pt -> 4/16
    2pt -> 6/16
    3pt -> 4/16
    4pt -> 1/16

Example 2 : fictive world with 6 competence levels :

    group 1: always lose, population 1/16
    group 2: win 1/4,     population 4/16
    group 3: win 1/2,     population 6/16
    group 4: win 3/4,     population 4/16
    group 5: always win,  population 1/16

If the final distribution is not Gaussian, I think we can distinguish luck vs competence but if the observed curve is Gaussian I'm not sure we can distinguish luck vs competence.

If we repeat for another four years, resetting the scores to zero, the relative rankings of people in the first group have swapped around, but the relative rankings of the second group has not (or at least, has changed to a much smaller degree). We could run this experiment over and over (two periods of four years), showing me only the relative rankings of the participants in each paired period (i.e. I get to see the results of the two random trials together, and the results of the two competence-based trials together), and I'd have a very good record of identifying the luck based competition from the competence based competition.

The real world is a mix of luck and competence, but if I see the same names coming out top in each periodic batch into the future, I can safely assume that they are not operating on luck.

Given enough people there will always be someone who tosses heads twenty times in a row, but the majority of luck-based achievers will perform averagely in the future, while the competence based achievers will perform according to their competence.

Many here are misuderstanding "firm performance" with employee quality of life( that's fair!).

But, from the "shareholder value" perspective this might actually be true. Some despicable CEOs may actually be just as good as a friendly and passionate founding CEO

surprise ratio: 0%

its very RARE that CEOs make the company succeed or fail. some do, either way, from time to time, of course.

most are just here gathering money and 'n attempting to figure out what their job is all about.

I remember someones comment that the people under the CEO, vice presidents etc, matter a lot more than is assumed. Especially since often CEO's get fired or quit fairly often. So it's the upper tier of management that provides longer term stability. (And those guys have an interest in keeping the CEO from wrecking things)

thats probably true. the ceo is more the face of the company (has to talk nice) and make a choice when the VPs are undecided (as in he rolls a dice and gives a number really)

Again im generalizing, but it is like that most of the time.

Large efforts have a momentum that few people can singlehandedly overcome. And at that level, the kinds of effect you can have are of a different order.

Number one, you need a growing market to have outstanding performance, either you are creating one out of another one or hitching a ride. Doesn't matter who is running it.

After that though I think CEO has an incredible impact on the business. They set the vision and culture and hire the leaders. If CEOs were just chance, there wouldn't be so many companies with transition issues.

There's one confounding factor I wonder about.

If a company, at some point, has a great long serving CEO or founder, that person will have great influence on choosing their successor. They will also have influence on who is on the board of that company. So there may be a virtuous circle called "culture" at that company.

Could that not make it look like the CEO statistically doesn't matter?

In a way it would, if it's affecting the culture surely it would affect the company as a whole.

Then why is the CEO the highest paid person ?

At the risk of sounding glib, they're paid the most because they're the best at convincing people who control money to pay them. Also, in no small part, because in most cases the people who control the money have little or no incentive to care what happens to it, and therefore are subject to every kind of conflict of interest and cognitive bias known to man.

Pay correlates with power not effectiveness. The highest paid in any organizations are those with the most power and the highest paid CEOs are those who run the biggest corporations.

I dont understand how they get that power. I guess they convince those with lots more money to give them that much?

I mean, if all the science is true, how does someone with so much money (say a board of directors) ever decide to pay someone that much? Clearly they're all ignoring the facts, but why? They dont seem to have anything to gain by paying someone too much, afterall their own stock/equity is at stake here.

> how does someone with so much money (say a board of directors) ever decide to pay someone that much

Most of the board will be executives in other companies; by voting high the salary of the CEO, they're nudging the average which benefits them when wearing their executive hat.

In the UK I have money in two Building Societies ( mutual banks ) and each year the members vote on candidates for the Board. It's amazing how many of them hold three or more different board positions and a couple of executive slots.

The board of directors are usually all highly paid execs. Like votes like. Also to get a CEO to change jobs or even promote (from another company), they have to offer an attractive package. Then stocks are a force multiplier.

>I dont understand how they get that power.

Connections. Yale/Harvard network, Ex-McKinsey network, We're-on-the-board-of-five-public-companies network, Family, etc.

>I mean, if all the science is true, how does someone with so much money (say a board of directors) ever decide to pay someone that much?

Mutual back scratching, favor exchange and membership of the in-crowd.

This is just how the system works: it is a pyramid, and people who happen to be on top earn more, despite any value he or she can bring to the table. There is of course some relation between value and position in this pyramid (particularly true near the bottom of it), but this is definitely not always true. As for the choice of this structure, well, today everyone expects a pyramid structure, and I believe there is no indication of change (I might be wrong on that).

It is surely not a perfect system given most definitions of "meritocracy", but I believe it is the best we can do now.

Because they don't take new jobs unless they're given large raises.

CEO can't really improve a company that much. (CEOs typically don't have any part in the actual production. And very small part in sales.) But CEO can fuck up big time.

If you would hire CEO with low pay, you have to choose inexperienced CEO. So you have no track record. And the chance that you have fuck-up is relatively high.

CEO's are paid a lot to "guarantee" that they are not idiots. Because accidentally hiring an idiot would be absolutely devastating. In other words: The CEO holds the company as a hostage, and you pay him to remain insignificant.

A CEO is only as good as the people below them, and the people below them, and so on...

Well, they'd better hire the right people to be below them!

How about right person at the right time?

Nope if I read that right. They made a simulation with random data. It explained 70% of the measured impact attributed to CEOs.

A prove that it's random can not be explained by claiming that it depends on anything. But it still leaves those 30% to be explained by something else.

Well Duh!!!!

Just like there are good and bad managers, there are also good and bad CEOs. The only difference I see between the two is that a bad manager when fired is basically given a meager severance package and a CEO walks away with millions.

Obviously wrong.

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