Do CEOs Matter?
Topics
Consider, for a moment, this compelling image: A charismatic leader sweeps into a troubled organization and, in the nick of time, saves it from certain demise. Larger than life, this heroic CEO has a seemingly magical ability to inspire and motivate the rank and file and to make needed change happen.
Many of us like to think that such creatures exist. Indeed, some researchers argue that a talented CEO exerts the most powerful impact on an organization's fate. But others maintain that social structure —that intricate web of relationships among a company's employees, systems and processes — is most important in determining whether the organization will succeed or fail.
An April 2001 working paper, “When Does Leadership Matter? The Contingent Opportunities View of CEO Leadership,” shifts the debate away from this either-or approach. Rather than asking whether individual agency or social structure matters more, the researchers reframe the debate itself. They ask: Under what circumstances will a CEO have a major impact on his or her organization?
To answer that question, authors Noam Wasserman, Nitin Nohria and Bharat Anand of Harvard Business School offer two critical dimensions that influence the magnitude of a CEO's impact on a company.
Resource Availability. This dimension derives from two conditions: an organization's level of debt (higher debt means less cash available to direct toward investments or acquisitions) and level of slack (that is, the number of extra people or amount of assets that the CEO can easily redeploy to take advantage of an opportunity).
Scarcity of Opportunities. This dimension stems from a confluence of three industry characteristics: exchange-constraint, or the degree of dependency between two industries when they buy or sell major portions of their output to each other; concentration, or number of players in a particular industry; and growth. Specifically, high exchange-constraint and concentration in an industry reduce the number of opportunities available, whereas high growth increases the number of opportunities.
Not surprisingly, the study suggests that CEOs at the helms of companies with low debt levels and high slack levels — thus high resource availability — will exert a more powerful impact on their organizations.
But the study reveals something much more counterintuitive regarding scarcity of opportunities. As the authors point out, most might assume that the more opportunities a CEO encounters, the more impact he or she will exert on the organization — regardless of industry. However, according to the research, CEO impact not only varies markedly by industry, it also increases as opportunities become scarcer.
The authors distinguish among four kinds of industries — and four corresponding levels of “CEO effect.” In “constrained” industries, where both opportunities and the resources to pursue them are scarce, a CEO will have only moderate impact on the company's fate. Likewise, in “munificence” industries, where a CEO has both opportunities and resources available, he or she will have moderate impact. In “impotence” industries, where opportunities are plentiful but the CEO has few resources, he or she will have little or no effect. It is when opportunities are scarce and the CEO has plentiful resources with which to pursue them that he or she will have the greatest effect. These are called “impact” industries.
What explains the counterintuitive relationship between scarcity of opportunities and CEO impact? According to the authors, in situations characterized by scarce opportunities, a CEO who misses an opportunity will have to wait a long time before encountering another opportunity. During the wait, a rival may take advantage of that same opportunity and gain a competitive edge. If the CEO does take advantage of a scarce opportunity, he or she has a much better chance of preventing a rival from benefiting from that same opportunity — and therefore may gain the competitive edge for his or her own business. Thus scarce opportunities create high CEO impact — whether that impact is positive or negative. By contrast, when opportunities are plentiful, CEOs don't need to grab at every opportunity — if they miss one, another will soon come along. Thus their impact on company performance — again, whether positive or negative — is minimal.
The authors contend that their findings have important implications for two corporate decision arenas: CEO compensation and CEO succession. In industries in which CEOs have a high impact, chief executives should have higher pay-for-performance compensation. Moreover, because it matters more who the CEO is in such industries, boards of directors should use more care in their searches for just the right leader.