This post is the second in a series by the Growthology team, where we will take a look at some of the topics discussed in State of the Field, a compilation of knowledge on entrepreneurship research written by the leading experts in the field.
A number of Growthology authors, including myself, have written about the critical importance of talent to successful businesses. Big or small, young or old, and in all industries, firms flourish when they are able to combine promising ideas, a strong execution of strategy, and bright, educated, and well-trained employees.
However, as I stated above, talent isn’t a panacea. Companies can’t collect talented individuals and expect them to take the firm to dizzying new heights. Firms have to organize so that they nurture talent and give it space to reach its potential.
One of the most important positions for talent is the CEO. CEOs, along with a company’s board and executive team, set the direction and strategic plan for the firm. Organizing and collecting the right talent in the right way ensures the best odds to execute the CEO’s vision. Because CEOs have such influence, firms generally offer lavish pay packages to secure their top choice.
With those potential consequences, ensuring that a company finds the right CEO is critical. The right CEO can be the difference between a growing company and one that fails to capitalize on its opportunities. This comes to a head most directly for family-owned companies.
Does a CEO from inside the family (including, but not limited to, the firm founder) produce better results for firms than an outside CEO?
Theoretically, the effect could work in either direction. On the one hand, a CEO from inside the founder family alleviates the traditional agent problem. The incentives of the CEO, in this case being a member of the founding family, and the firm are aligned, as the founder has every reason to work for the best performance of the company. On the other hand, research has shown that family founders can be prone to distraction and non-revenue optimizing hiring decisions.
But there are a number of differences research has found between the traditional family-owned business and the shareholder CEO model. In the companies that choose an external CEO, with no familial connection to the business or founder, those firms are quicker to adopt basic performance enhancing processes. External CEOs also tend to work longer hours than family CEOs and show more loyalty to shareholders, where family CEOs focus more on stakeholders, namely employees. When researchers are able to strip away the clouding factors that make a simple choice between hiring a family member as CEO or looking beyond the immediate reach of the company, external CEOs stand apart on these kinds of performance characteristics.
Beyond the performance aspect of CEOs, firms are faced with difficult decisions about CEO compensation. It is relatively obvious that a more lucrative compensation package will attract more qualified CEO candidates. But research doesn’t show that increasing the pay of CEOs will positively change firm performance.
Historically, CEO pay increased dramatically in the 1990s due to a change in the tax law that allowed more favorable treatment of stock options as part of the compensation package. Yet, as seen above, this wasn’t about the performance of the CEOs, just the way firms viewed the different types of compensation CEOs were able to receive.
As a research topic, corporate governance and the structures firms use to develop effective management and productive talent still holds more important questions. The mechanism that translates effective executives into firm performance is still fuzzy and the reasons for a large variation in management practices are topics that are ripe for researchers to examine. On the family founder topic, there is increasing attention as to how succession plans are developed and how valuable keeping the family in the business is. According to the Family Firm Institute, only 30 percent of family businesses survive into the second generation. How family businesses in the aggregate can work to mirror the performance standards of the more typical firm ownership yet retain their unique characteristics is a fascinating research question.
What do you want to know about corporate governance and how firms behave? Let us know and check out all of the research topics including Corporate Governance that make up Kauffman’s State of the Field! Check out the NEW website for updates!
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Chris Jackson is a research assistant in Research and Policy for the Ewing Marion Kauffman Foundation, assisting in the understanding of what policies and environments best promote entrepreneurship and education in the pursuit of economic growth.