Business Exposed: The naked truth about what really goes on in the world of business (Financial Times Series) by Freek Vermeulen

Author:Freek Vermeulen [Vermeulen, Freek]
Language: eng
Format: azw, pdf
ISBN: 9780273761723
Publisher: Pearson Education Limited
Published: 2012-09-06T16:00:00+00:00

CEOs do seek advice – if you pay them for it ...

So, now we know that stock options alter top managers’ behavior (in the form of risk-taking), but what about performance-related pay in general? Does this alter behavior in other ways too? And does it actually improve it?

I know I previously said that I find it a bit strange that top managers would need performance-related pay. Do you really want someone at the helm of your company if he only works hard and smart if he’s directly rewarded for it? On the other hand, I have to admit, no matter how rhetorical this question is intended, I guess it is only human nature ...

It is human that our behavior alters due to performance-related pay; and you and I are probably no exception. The trick then, of course, is to get the right measurement system, and perhaps not to overdo it; too much performance-related pay may alter the behavior of top executives in ways you had not got in mind when putting the measures in place! We’ve seen ample examples of that over recent years ... Enron, Lehmann, and Worldcom come to mind.

So, how might it bias top executives’ behavior in useful ways? Professors Michael McDonald from the University of Central Florida, Poonam Khanna from Arizona State University, and Jim Westphal from the University of Michigan examined an intriguing aspect of CEO behavior, and that is their inclination to seek advice from others.

CEOs often seek advice on strategic issues from executives of other firms. However, we also know from research that, just like the rest of us, they are often inclined to solicit that “advice” from friends and other people who are just like them. In such cases, it is not really genuine advice-seeking, but it serves more in a self-confirmatory fashion; people seek confirmation that what they are doing is right, and what better way to get that than by asking the opinion of your friends?

To examine which CEOs engage in this pseudo advice-seeking and which ones truly turn to people who might actually disagree with them, McDonald and his colleagues surveyed 225 large American industrial and service firms. They managed to obtain information on how often their CEOs sought the input of other top managers outside their own firm, and how well acquainted they were to them. Subsequently, they statistically correlated that to the extent to which these top managers received performance-contingent compensation packages, and found a very clear result.

Those CEOs who had a very small performance-related pay component in their compensation package sought very little true external advice. They relied on asking their friends – and perhaps their wife, uncles, and mother – whether they too thought that what they were doing was great, splendid, and spot on.

In contrast, CEOs with a relatively large performance-contingent component in their remuneration package sought advice much more often from other executives who were not their friends and who had different backgrounds than themselves. These people may be slightly scary (they might actually tell you that what you’re saying is nonsense!) but perhaps also more useful.

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