The Art and Science of Leadership

By Christopher Pederson

Vladas Griskevicius: The Power of Influence

McKnight Associate Professor of Marketing and Psychology Vladas Griskevicius has long been interested in, as he puts it, “whether someone can be powerful without being in power.” His research has found some unusual and unexpected components of leadership.

Generally speaking, how much influence do CEOs exert over their employees?

This is like asking how much influence parents exert on their children. On some days, it seems like the answer is none—kids sometimes intentionally do the opposite of what their parents want. But in general, just like parents with kids in families small and large, CEOs have a tremendous influence on their employees in small and large companies.

Are there specific traits and behaviors that make a leader influential?

There is no one-size-fits-all kit, but a few things can help. Leaders tend to be more influential if they are extroverted, likable, and confident—and even overconfident.

For example, Steve Jobs is considered one of the modern age’s sharpest business thinkers. But he was notorious for supreme overconfidence.

Jobs was not alone. When men in one study were asked to rank themselves on athletic ability, 100 percent rated themselves in the top 50 percent. Psychologists call this the “overconfidence bias,” and it sometimes reaches absurd levels—as in the case of people hospitalized after auto accidents who persist in believing they are better than average drivers.

This bias is clearly irrational. It’s not possible that everyone can be better than average. But while this irrational tendency can lead us to appear foolish, new findings show that being overly confident may be smarter than we think.

So overconfidence can be beneficial for a leader?

At times. Numerous studies find it can pay to be overconfident. Confidence is often an essential ingredient of success in job performance, sports, and business. It increases ambition and persistence, and confident individuals are more likely to remain optimistic in the face of uncertainty.

Confidence also has a lot to do with getting promotions. Research finds that people who are more confident are also seen as more competent. And when it’s time to select a leader, the top jobs go to people who are seen as competent, even if they’re not actually all that competent.

Vivian Fang: The Links Between CEO Behavior and Compensation

New research from Assistant Professor Vivian Fang has found that CEOs with a large amount of equity vesting don’t always act in their company’s best interests. In fact, she’s seen strong evidence that the majority will sacrifice long-term value to meet short-term earnings targets.

What sorts of actions do these CEOs take?

Here are some examples:

• decreasing discretionary spending such as R&D, advertising, and maintenance
• delaying starting new projects, even if it entails small sacrifices in value
• drawing down on reserves
• postponing taking accounting charges

 What is the most common?

Decreasing discretionary spending. Research (Graham, Harvey, and Rajgopal, 2005) indicates that 80 percent of executives would cut spending on R&D, advertising, and maintenance to meet an earnings target.

What factors contribute to this trend?

Grants of CEOs' equity compensation (both stock- and option-based) are usually not vested right away. Most equity grants vest in a fractional manner and the vesting periods are often between three and five years. Our research has found that a CEO may have greater incentives to keep the stock price high (and thus enjoy a higher selling price) when he or she has a large amount of equity vesting.

How did you reach that conclusion?

If CEOs have greater incentives to keep the stock price high in a year when they have a large amount of equity vesting, we should see them taking measures to ensure it. Our research found that higher vesting equity is associated with a reduction in R&D spending, advertising, and capital expenditures. This corresponds to a higher probability of meeting or narrowly beating analysts’ forecasts.

What are the practical implications of this research?

We show that equity compensation with short horizons appears to lead to myopic CEO actions at the expense of long-term value. Based on our research, corporate boards may wish to take into account the link between equity vesting and investments when designing CEO compensation contracts.

Gurneeta Vasudeva: Norwegian 'Responsibility'

As Assistant Professor Gurneeta Vasudeva has discovered, leadership is not confined to individuals. She has done extensive research into the impact of the discovery of oil reserves off Norway and its effect on the country. The Norwegian government’s response has made the country a model of “responsible investment,” an approach based on ethical and sustainable investments.

What has the Norwegian government done?

Since 1990, it has directed surplus oil revenues into its Government Pension Fund, which is now worth more than $600 billion. That fund relies exclusively on responsible investment principles.

Why would the fund emphasize responsible investment?

I hypothesized that it involved establishing the legitimacy of its cross-border investments, particularly foreign equities, and also influencing Norwegian companies to adopt those principles. My research confirmed that. The fund has grown remarkably since it was set up—including by about $100 billion in 2012 alone. That has helped persuade a growing number of Norwegian companies to adopt responsible investing.

This isn’t a typical role for a government, is it?

No. We’ve traditionally seen governments as being regulative in nature—they change behavior by putting rules and laws in place. In this case, the Norwegian government has altered behavior through normative mechanisms.

This research showcases a new role for governments in the modern economy. The results also contradict the argument that the state is no longer relevant in the modern economy. Norway is an active investor in the global economy, and its investing approach has a powerful impact on companies and industries. It shows how governments can be used as tools to shape industrial policy in their countries.

Ivy Zhang: CEO Compensation

Like Vivian Fang, Assistant Professor Ivy Zhang also has focused on CEO pay. In a paper that appears in the September 2013 Journal of Accounting Research, she and her colleagues report on the impact of CEO compensation structure on post-acquisition purchase price allocations.

Can you briefly explain “post-acquisition purchase price allocation?”

It’s the initial valuation and recognition of acquired assets and liabilities. The acquirer allocates the purchase price to its identifiable tangible and intangible assets and liabilities based on their individually estimated fair values. The remainder—the difference between the purchase price and the total fair value of net identifiable assets—is recorded as goodwill.

In accounting, goodwill is recognized only after acquisitions. Since goodwill is the residual fair value of an acquired entity, it captures the unrecognized, usually intangible, assets of the acquired entity, as well as synergies created by the combination of the target and the acquirer. It is the most important asset recognized post-acquisition, accounting for almost 60 percent of the acquisition price on average.

Why are some CEOs more likely to over-allocate purchase prices to goodwill?

This relates to differences in the accounting treatment for various assets post-acquisition. Tangible and identifiable intangible assets with finite lives, such as developed technologies, need to be depreciated or amortized, giving rise to depreciation and amortization expenses and reducing earnings. Goodwill, in contrast, is not amortized, but tested periodically for impairment. Managers can avoid timely recognition of goodwill impairment because of the discretion involved in the impairment testing. Thus, recording more goodwill (therefore less identifiable tangible and intangible assets) generally leads to higher post-acquisition earnings.

CEO compensation is typically a function of a firm’s stock and accounting performance. In particular, CEO bonus plans often include earnings-based formulas. Higher earnings likely translate into higher compensation. CEOs thus have incentives to over-allocate purchase price to goodwill to increase post-acquisition earnings and compensation. Indeed, we find evidence that CEO post-acquisition bonuses increase with the extent of the over-allocation to goodwill.

What are the implications of this research?

This study contributes to the understanding of the hotly debated topic of fair value accounting, which is the practice of measuring assets and liabilities at estimates of their current value. Fair value measurement in purchase price allocation resembles the proposed fair value accounting procedures for non-financial assets and liabilities. We provide evidence that CEO compensation incentives distort fair value measurement—which casts doubt on the benefits of adopting fair value accounting when objective measures of fair values are absent.