CEO turnovers due to poor industry performances: An examination of the boards’ retention criteria

Posted by Wilson H.S. Tong, Hong Kong Polytechnic University, on Tuesday, March 19, 2024

Editor's Note:

Wilson H.S. Tong is Professor of Practice at the School of Accounting and Finance and Faculty of Business at Hong Kong Polytechnic University. This post is based on an article forthcoming in the Journal of Accounting and Public Policy by Lin Li, Peter Lam, Professor Tong, and Justin Law. Related research from the Program on Corporate Governance includes Lucky CEOs and Lucky Directors (discussed on the Forum here) by Lucian Bebchuk, Yaniv Grinstein, and Urs Peyer; The CEO Pay Slice (discussed on the Forum here) by Lucian Bebchuk, Martijn Cremers, and Urs Peyer; and Golden Parachutes and the Wealth of Shareholders (discussed on the Forum here) by Lucian Bebchuk, Alma Cohen, and Charles C.Y. Wang.

Executive Summary

1. Industry and firm-specific returns relate to CEO forced turnovers differently across industrial conditions.
2. CEO forced turnovers relate more to idiosyncratic returns during recessions but more to industry returns during booms.
3. Stock prices are more reflective of CEOs’ abilities during recessions than in booms.

Agency Problems & Executive Incentive Scheme

To mitigate agency conflicts in a corporation, a proper incentive scheme for the management is considered as essential. The positive incentive is the executive compensation package and the negative incentive is the disciplinary executive forced turnover. Presumably and understandably, such incentives should be linked to firm-specific performance, more precisely, firm performance in excess to the sector/industry performance (so-called relative performance evaluation (RPE)). Indeed, empirical studies in this line of literature typically show that such relative stock performance is positively correlated with executive compensation while negatively correlated with the likelihood of executive turnovers.

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