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Employment Network and the CEO Labor Market

Yun Liu

Finance Department

R. H. Smith School of Business

University of Maryland

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Motivation

� Facebook (120 million users), LinkedIn (30 million users), Connected Beam (Fortune 500)

� Networks are likely to be important in the market for CEOs.� Social capital – Burt (1992), Granovetter (1995)

� Labor market – Khurana (2000)

� Now in corporate governance – Kramarz & Thesmar (2006 WP), Hwang & Kim (JFE, forthcoming)

� Theories, surveys <> systematic evidence

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My paper

� Connectedness adds to traditional CEO turnover and compensation variables in economic significant ways.

� CEO connectedness increases the likelihood of turnover.

� CEO candidate’s connectedness to the board increases the probability of getting hired.

� CEO connectedness is related to higher stock-based incentives.

� Implications for corporate governance and performance

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Outline

� Network measures

� Data

� Results

� Contributions related to literature

� Conclusions

� Ongoing research

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Network basics

� Nodes, links -> network

� Components

� Shortest distance

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Who’s the most connected?

Degree:

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Who’s the most connected?

Closeness:

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Who’s the most connected?

Betweenness:

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Also, Pairwise measures

� Like looking at one person’s rolodex

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Constructing Networks

� Everybody in a proxy statement

� Disclosed earners (CEO & 4+ Executives)

� Board of director members

� Link(x, y)=1 if x and y are employed by same organization in same year

� Snapshots for each year

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Raw Data

� BoardEx

� 61,119 corporate executives and directors

� 12,352 US public firms

� Links formed across 76,572 organizations

� 12 years (1996 - 2007)

� Final sample

� 577,653 person-year observations

� 63,104 CEO-year observations

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Data – other variables

� Accounting data come from COMPUSTAT

� Match firms using cusip, ticker, name and address

� Get GVKEY

� Stock returns come from CRSP

� Executive compensation data come from EXECUCOMP

� G Index.

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CEOs with the highest degree

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Correlation Matrix

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Turnover

� Connectedness and likelihood of turnover

� Outside opportunities => turnover

� Potential entrenchment => turnover

� Connectedness and subsequent positions

� Connectedness and turnover-performance sensitivity

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CEO Connectedness and Turnover

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Departed CEO Connectedness and Subsequent Positions

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EO Connectedness and Turnover-Performance Sensitivity

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Turnover results

� A one s.d. increase in CEO connectedness is associated with 1.44% higher probability of turnover.

� A one s.d. increase in CEO connectedness increases the probability of subsequently holding a top outside position.

� CEO connectedness strengthens the turnover-performance sensitivity.

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New CEO Selection

� Connectedness and new CEO hiring

� Reduced search costs => hiring

� Better fit => hiring

� Cronyism => hiring

� Value adding Social capital => hiring

� Distraction => hiring

� More turnover => hiring

Pairw

ise

Overa

ll

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CEO candidate pool

� All executive directors or disclosed earners of the comparison firms in the year before the succession.� firms with the same 3-digit SIC code and in the same

1/50th size group;� firms with the same 2-digit SIC code and in the same

1/50th size group;� firms with the same 2-digit SIC code and in the same size

decile; and � firms with the same 2-digit SIC code and in the same size

decile.

� The average number of candidates identified this way is 9.86 per succession. The final sample consists of 11,147 position-candidate observations.

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Table 11: Connectedness and Outside Succession

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Table 11 continued

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Hiring results

� Having a direct link to any of the board members boosts the probability of getting the CEO job by about 51%.

� A one s.d. increase in the closeness measure reduces the probability of hiring by 10.34%.

� A one s.d. increase in the betweennessmeasure increases the probability of hiring by 1.33%.

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Compensation

� Level of compensation

� General human capital => pay

� Outside opportunities => pay

� Agency problem => pay

� Mix of compensation

� Contracting theory => more incentives

� Agency problem => more incentives

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Table 12: Connectedness and Compensation

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Table 14: Connectedness and Compensation by Governance Groups

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Compensation results

� A one s.d. change in the CEO connectedness increases total compensation by 10.62% ($560,869).

� A one s.d. unit increase in connectedness increases incentive pay by 8.59% ($295,684).

� Limited evidence that higher compensation paid to connected CEOs is associated with bad governance.

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Related literature

� Social networks in finance� Venture capital: Hochberg, Ljungqvist, and Lu (JF, 2007)

� Mutual fund: Cohen, Frazzini, and Malloy (JPE, fc)

� Board directors and CEOs: Hwang and Kim (JFE, fc), Kramarz and Thesmar (2006), Nguyen-Dang (2008), Barnea and Guedj (2006)

� Turnover� Firm performance: Huson, Parrino, and Starks (2001),

Huson, Malatesta, and Parrino (2004), Farrell and Whidbee(2003), …

� Industry characteristics: Parrino (1997)

� Personal attributes: age, tenure

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Related literature

� Compensation: Jensen and Murphy (1990), Rosen (1982), Aggarwal and Samwick (1999), Core et al (1999), Bertrand and Schoar(2003), …

� Social capital: Putnam (1995), Guiso, Sapienza & Zingales (AER 2004, JF fc, JEEA 2008), …

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Conclusions

� Connections add to traditional turnover and compensation variables in economically significant ways.

� Contributions

� Literature on social networks in the labor market

� Literature on turnover and compensation

� Novel network measures

� Large scale

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Next papers

� Educational networks

� Non-profit organization affiliation networks

� The independence of independent directors

� Mergers and acquisitions, especially cross-boarder M&A