Geoffrey Tate


Study by Geoffrey Tate shows a real effect on stock value and performance

The business media in the U.S. can quickly transform a CEO into a celebrity. Making the cover of BusinessWeek can open the door to television appearances, publishing deals and new levels of status and wealth. But recent research by UCLA Anderson Assistant professor Geoffrey Tate and his co-author, Ulrike Malmendier, shows that firms often stumble after the CEO becomes a superstar. The study is described in a paper called, "Superstar CEOs."

To study the impact of CEO recognition on firm performance, Tate and Malmendier gathered data on CEO awards given by prominent business magazines. "There are really two main sources," says Tate. "There was a magazine called Financial World that was doing CEO awards from the 'Seventies through the 'Nineties. That was a prominent set of awards. The other one that is still going and has become even more prominent is the BusinessWeek awards. They do a list of Top 25 CEOs every year. We collected these data back to 1992."

The data indicate that CEOs who win these awards tend to underperform afterward. Tate explains how they measured CEO performance. "The first thing you might think is let's look at how the CEO and his company were performing in stock returns prior to winning the award and let's compare it to how they perform over the one, two, three years after the award," he says. "But there's an obvious problem because, in order to win an award, you need to have unusually strong performance. So we might expect that if you have this unusually strong performance leading up to an award, you wouldn't match that performance after the award just because of reversion to the mean."

So Tate and Malmendier constructed a sample of CEOs that looked almost exactly like the award winning CEOs -- but who didn't actually win an award. "If we see a difference between the award winners and those matched CEOs after the award," Tate explains, "We can conclude that this is due to the CEOs doing something different than they were doing before ... Something that's not maximizing value. So we looked at the differences in stock returns between these groups and found a pretty large deterioration in performance among the award winners relative to the non-winners.

"We also checked to see if we could find evidence of that same deterioration in operating performance, not just stock returns," he says. They looked at measures of performance such as return on assets. "This also showed weaker performance among the winning CEOs so it does seem like there is something real going on. It's not just something about how investors in the stock market perceive these CEOs. There really is something in terms of real value being generated inside the firm."

So what causes performance to decline among celebrity CEOs? Tate and Malmendier do not claim to exhaustively measure all the possible causes, but they raise some possibilities. "One thing we find is that the compensation of the CEO who wins the award gets a big jump. We also see that these CEOs start spending time writing books, sitting on company boards and doing other things that may distract attention from maximizing value. Then we also see some evidence of increasing earnings manipulation as the CEO attempts to maintain superstar performance for as long as possible.

"What's interesting with all these things, the increased compensation, the books, the board seats," he continues, "Is it seems to be going on in firms that don't have strong corporate governance mechanisms. So that may be supporting evidence that this behavior is not in the best interest of shareholders." But Tate also points out that CEOs were as likely to win a major award whether or not a firm had strong governance measures. "We see equal numbers of awards among the good and bad governance firms," he says. "But deterioration of performance is concentrated in the poorly governed firms."

Tate also suggests that a CEO may have less incentive to work hard after becoming a celebrity. "Once I have become a superstar," he says, "I may want to start spending time reaping the rewards of celebrity status. That's when it's important for a firm to have other governing mechanisms in place."

What was most surprising about the study? "Our usual baseline is that everything is rational and efficient," explains Tate. "So, if there is a decline in performance after a CEO wins an award, you might think it's just mean reversion. I think it's very significant that we find there is a real effect even after carefully controlling for the fact that we should expect performance to decline. We found that very surprising."

Will Tate build on this study? "We'll see. I think it's interesting to study more generally the impacts of the celebrity culture. It's certainly not constrained to just CEOs. One question is where did that come from? Why is it that the media devotes so much attention to creating celebrity CEOs? It seems to have negative consequences for firms. What is the supply and demand for that? Can we understand this market a little better?"