more on: norms

Leadership and Corporate Culture

+ Brandon Fuller

Two recent working papers examine the influence of executive leadership on corporate culture and performance. Efraim Benmelech and Carola Frydman examine the effect of military service on corporate leadership and find that military CEOs are less likely to get involved in fraudulent activity. From Ray Fisman’s write up of the paper in Slate:

Military CEOs were about 60 percent less likely than nonmilitary leaders to preside over Enron-style cooking of the books—the rate of “fraud years” was under 1 percent for military CEOs, as compared to more than 2 percent on average for their civilian counterparts. Furthermore, military CEOs were less likely to doctor earnings numbers when the pressure is greatest, during periods of low industry profitability. In these low profit years, the average rate of fraud rises to just over 1 percent for military CEOs, as compared to nearly 5 percent for civilian ones.

The authors also find that companies run by CEOs with military experience perform better during industry downturns, though not as well during industry booms — with the net effect of slightly lower shareholder value under military leadership.

Fisman wonders whether we may have to accept the occasional scandal in order to fully harness the roguish creativity that drives companies to innovate and outperform. Perhaps, but it’s not clear that a soldier’s sense of duty goes hand in hand with rote, unquestioned obedience to the rules. Firms may be able to cultivate more military-style ethics at the top without sacrificing leadership that is willing to look “beyond the way things have always been done.”

Robert Davidson, Aiyesha Dey, and Abbie Smith consider whether certain executive traits influence the risk of fraud or errors in financial reporting (HT to Suzy Khimm). They find that executives with a record of legal infractions are more likely to directly involve themselves in the perpetration of fraud. Though the authors find no relation between frugality, as measured by luxury good ownership, and the propensity of CEOs to get directly involved in fraud, they do find that companies run by flashy CEOs are more likely to see a fraud and error-prone culture bubble up lower down the hierarchy. From the abstract:

We find that unfrugal CEOs oversee a relatively loose control environment characterized by relatively high probabilities of other insiders perpetrating fraud and unintentional material reporting errors. Further, cultural changes associated with an increase in fraud risk are more likely during unfrugal (vs. frugal) CEOs’ reign, including the appointment of an unfrugal CFO, an increase in executives’ equity-based incentives to misreport, and a decline in measures of board monitoring intensity.

If corporate culture partially reflects the norms of the executive, then a leader who follows the letter of the law may not be enough. To instantiate norms of rigor and honesty throughout an organization, the standards for executive conduct may need to be set exceptionally high.

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