CEO Survivorship Bias…

Within the US and elsewhere, for the past several decades there has existed what can only be called the “Cult of the CEO”. This has been reflected in the disproportionate way in which their compensation packages have diverged from those of lesser mortals as well the often undue deference paid to their statements and public musings, let alone what may happen within the confines of the businesses which they run. Of course, there are exceptionally-talented individuals, who demonstrably add value and make a difference. No doubt each of us involved in the realm of finance and (re)insurance has a view on that- and we are not going to “name names” here.

However, each and every one of them is merely mortal, with individual flaws and biases just like the rest of Humanity. The characteristics of successful CEOs, and how they are identified and selected, has its own sub-discipline within the study of behavioural corporate finance, so we read with interest a recent paper by Marius Guenzel (Wharton) and Ulrike Malmendier (UC Berkeley) entitled “The Life Cycle of a CEO Career”.

Wrapped within the academic prose are some interesting insights into the real world of CEO advancement, selection and firing.

Firstly, and quite logically, as in many other areas of business and finance, there is an inherent survivorship bias, particularly when it comes to assessing and hiring external candidates. After all, if one has failed in a previous role, one is unlikely to be top of the candidate selection list! Conversely, confident and apparently successful individuals have a distinct advantage. In fact, the paper posits that over-confidence in one’s abilities is actually an advantage at that stage, because a Board or selection committee will not have had the opportunity to observe an individual’s true nature, as it would have done with an internal candidate. It is also well understood (and not just at the CEO level!) that hiring managers have the tendency to hire those with whom they identify, and whom they believe they “understand”.

Secondly, and this would apply to internal candidates as well, the need to be seen to perform can lead to a willingness to take on more risk to try to create leverage to the upside (which is often also influenced by the structure of compensation packages), thus actually increasing the risk of failure in adverse circumstances. Of course, by definition, in the absence of a monopolistic advantage, a business has to accept an element of risk in order to grow and prosper. However, there is the  question of whether the risk-taking is proportionate, or might expose the business to a material risk of ruin. The selection process and its own in-built “skew” may inadvertently increase the risk of future failure, or, at best, underperformance when truly tested. Ironically, it is the individuals who are more self-aware and more humble who may perform better long term.

And finally, when it comes to the firing of an unsuccessful CEO (who is still likely disproportionately to be male- just look at the (re)insurance industry!), the authors find evidence that the more “male” a Board is in terms of its composition, the greater its reluctance to fire “one of its own”.

None of the above is particularly surprising. However, it is useful to see the issues examined in a more rigorous and less anecdotal way. It suggests the need, as always, to distinguish between the truly capable and the clever “bluffers”; and to look at a business’s past performance in context and on a risk-adjusted basis, trying to assess how much it reflects the skills of the CEO.

At Awbury, our whole business model and operational approach is built around deploying a cohesive team, which believes fundamentally in measured, incremental growth. Aiming to “shoot the lights out” is most certainly not of any interest, because, particularly in the (re)insurance business, it is axiomatic that excessive risk taking is, frankly, stupid.

The Awbury Team

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