CEO Investment Cycles

65 Pages Posted: 17 Aug 2013

See all articles by Yihui Pan

Yihui Pan

University of Utah - Department of Finance

Tracy Yue Wang

University of Minnesota - Twin Cities - Carlson School of Management

Michael S. Weisbach

Ohio State University (OSU) - Department of Finance; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Date Written: August 2013

Abstract

This paper documents the existence of a CEO Investment Cycle, in which firms disinvest early in a CEO's tenure and increase investment subsequently, leading to "cyclical" firm growth in assets as well as in employment over CEO tenure. The CEO investment cycle occurs for both firings and non-performance related CEO turnovers, and for CEOs with different relationships with the firm prior to becoming CEO. The magnitude of the CEO cycle is substantial: The estimated difference in investment rate between the first three years of a CEO's tenure and subsequent years is approximately 6 to 8 percentage points, which is of the same order of magnitude as the differences caused by other factors known to affect investment, such as business cycles or financial constraints. We present a variety of tests suggesting that this investment cycle is best explained by a combination of agency-based theories: Early in his tenure the CEO disinvests poorly performing assets that his predecessor established and was unwilling to give up on. Subsequently, the CEO overinvests when he gains more control over his board. There is no evidence that the investment cycles occur because of shifting CEO skill or productivity shocks. Overall, the results imply that public corporations' investments deviate substantially from the first-best, and that governance-related factors internal to the firm are as important as economy-wide factors in explaining firms' investments.

Suggested Citation

Pan, Yihui and Wang, Tracy Yue and Weisbach, Michael S., CEO Investment Cycles (August 2013). NBER Working Paper No. w19330. Available at SSRN: https://ssrn.com/abstract=2311579

Yihui Pan (Contact Author)

University of Utah - Department of Finance ( email )

David Eccles School of Business
Salt Lake City, UT 84112
United States

Tracy Yue Wang

University of Minnesota - Twin Cities - Carlson School of Management ( email )

19th Avenue South
Minneapolis, MN 55455
United States

Michael S. Weisbach

Ohio State University (OSU) - Department of Finance ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

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