How CEO Characteristics Affect R&D Spending

What key factors influence a company's spending on research and development? Studies conducted during the past 15 years have focused largely on the nature of particular industries, corporate strategy and the level of ownership by institutional shareholders. However, in “CEO Characteristics and Firm R&D Spending,” a paper published in the June 2002 issue of Management Science, Vincent L. Barker III, an associate professor at the University of Kansas School of Business, and George C. Mueller, adjunct faculty member at the University of Wisconsin-Milwaukee's School of Business Administration, identify another critical contributor. CEO backgrounds — in particular, their academic specialization and areas of management experience — appear to more strongly influence R&D spending than has previously been believed.

“CEO characteristics do predict a significant proportion — between 11% and 14% — of the variance in relative R&D spending among the companies we sampled, after controlling for time and ownership attributes,” Barker and Mueller report. In addition, they point out that various CEO characteristics seem to have an equal or greater association with R&D spending than do other purported factors such as diversification strategy.

Barker and Mueller set out to investigate how a CEO's length of tenure, age, level of stock ownership, professional experience and/or level or type of education correlate to R&D expenditures. They used operations-research models to analyze data drawn from the 1989 and 1990 Business Week 1,000 lists and the Business Week R&D Scoreboard for the corresponding year. For each of the 172 companies that made R&D expenditures, the authors calculated the total R&D dollars spent per employee relative to its industry average, thus enabling them to correct for differences in R&D spending across industries. Data related to CEO professional experience was derived from special issues of Business Week about senior executives for the year of sampling. The authors coded CEO experience into categories (finance/accounting, legal, productions/operations, administration, marketing/sales, and engineering/R&D). In doing their analysis, they controlled for the influence of such factors as company ownership, company size, past performance and diversification strategies.

According to the authors, the CEO characteristics most relevant to R&D spending are type of education and professional experience. CEOs with graduate degrees in science and engineering, the authors note, are more likely to spend money on R&D than those with legal degrees, for instance. Similarly, CEOs experienced in technical and marketing areas tend to favor R&D spending more than those who rise through the ranks of the legal, accounting or finance departments.

In addition, a positive association appears to exist between the magnitude of a CEO's stock holdings and a firm's relative spending on R&D. “This finding is consistent with the argument that CEOs make longer-term investments that maximize firm value when their interests are closely aligned with those of shareholders,” the authors report. And while the length of a CEO's tenure had relatively little influence, the CEO attribute that appears to be most strongly associated with R&D spending is age. “It may be logical for older CEOs to focus on short-term goals rather than long-term R&D investment.”

What pragmatic implications do these findings have? For one thing, they suggest the utility of profiling the CEOs of competitors as a factor in predicting the competitors' future spending on R&D. “The safest way to look at competitors,” Barker points out, “is to develop a profile on the basis of their past R&D spending behavior, financial situation and stated goals. When a new CEO is appointed, our results might be useful in predicting a shift in spending. But they should be complemented by competitive intelligence about how the competitor's new CEO has behaved in past assignments.”

Internal policies may also benefit from these findings. Companies committed to R&D might consider creating executive development programs that would rotate senior managers through significant assignments in research, engineering, marketing and sales functions. Certain technology-based companies, such as 3M, already have this kind of program.

“In terms of product development, CEOs and top executives at 3M have usually been part of new-product management teams before advancing to the upper echelons of the firm,” Barker says. “This ensures that they understand the innovative process that drives 3M's fortunes.”