What influences the way we view and act upon the world? As a parent of two young children who are at the same time so similar and so different, I have often considered the roles of nature vs. nurture. With the nature component set, I previously wondered how their exposure to friends, books, music and play would shape the adults they become. Now, I also think about how these trying times of COVID-19 and social distancing will affect them. Really, how do hard times affect any of us?
For the past several years, I have analyzed the relationship between CEO compensation and firm performance. Recently, my questions have shifted toward how recessions affect that relationship. What are the factors that predict which CEOs will efficiently lead their companies through downturns? A 2017 The Review of Financial Studies article, “Shaped by Booms and Busts: How the Economy Impacts CEO Careers and Management Styles,” by Antoinette Schoar and Luo Zuo found that the best CEOs during a recession might just be those that began their careers during a recession. Moreover, they find that downturns change the career trajectories for future CEOs.
Altered Career Paths
Schoar and Zuo, using data on 2,058 CEOs from S&P 1500 firms between 1992 and 2010, examined whether future CEOs who started their careers during a recession (termed “recession CEOs”) experience a different career trajectory and develop a different management style compared to non-recession CEOs. The authors modeled two channels through which a recession would affect a CEO. First, they considered the initial job placement given the labor market conditions of the recession and found that, relative to non-recession peers, recession CEOs start in notably different types of firms. The initial position is more likely to be at a private firm that is not among the top 10 firms known for producing CEOs. (See Figure 1.) When they do move to their first public-firm position, they work at firms with about 20% lower sales compared to non-recession CEOs.
Don’t start worrying that it is only bad news for recession CEOs: Schoar and Zuo also found that recession CEOs ascend to the top seat faster, beating non-recession CEOs to the position by 1.5 years. What is their path? It is more direct. They move around less in their career, having fewer positions, joining fewer firms and entering fewer industries.
So, where do they end up on these streamlined paths to top management? Schoar and Zuo examined the characteristics of the firms where the manager first became a CEO. While recession CEOs head smaller firms with 25% lower sales, both recession and non-recession CEOs lead firms that are equivalent in terms of profitability and valuation. Despite these similarities in firm performance, recession CEOs earn 11% less than non-recession peers, even after accounting for the size of the firm.
Hard Times Seem to Have a Lasting Impression
The second channel the authors considered is the impression that starting one’s career during a recession has on management style. Perhaps this early exposure to managerial techniques aimed at lowering costs or protecting resources predisposes the manager to lean toward a more conservative style. If a grandparent who grew up in the Great Depression has ever scolded you for wasting food or spending money frivolously, you have firsthand experience with this concept.
The authors found resounding evidence that recession CEOs lead with more conservative management styles. Specifically, their firms have lower capital expenditures, spend less on R&D, have lower general expenses, are less leveraged, have lower working capital needs and are less volatile in terms of stock return. Those of you who have read columns by my colleagues and I at the Institute for Compensation Studies might be asking yourself if these results are driven by the different types of firms where these CEOs end up. Great question! Schoar and Zuo looked into this issue and were able to statistically separate the time trends within firms from outcomes achieved by individual CEOs. They concluded it is the CEOs’ leadership that brought about these conservative firm behaviors.
Connecting Past Recessions to Our Current Market
So, the career path and leadership style of CEOs are shaped by macroeconomic conditions. Is one type of CEO better suited to manage a downturn? Schoar and Zuo asked the same question and determined that the market you enter is the market you are best at managing. Recession CEOs outperform non-recession CEOs during recessions but lag during boom periods.
What does this rich set of findings mean for us today? Will the CEOs who started their careers during the recessions of 1990-1991 or 2001 better navigate their firms through this generation’s recessionary hardships? At least one well-done study by Schoar and Zuo suggests this will be the case. And, as for the 20-somethings entering the labor market during the COVID-19 era, what leadership characteristics and management techniques will they be branded with and apply to leading firms during macroeconomic challenges 20 years from now?
Hassan Enayati, Ph.D., is a research associate and assistant executive director for the Institute for Compensation Studies at the ILR School at Cornell University.