Last week I circulated a link to a paper that showed non-performing CEOs of China’s state owned enterprises get reliably dumped in the event of non-performance. That led me to a next question, answered in the paper I’m highlighting this week.
In ‘Does CEO turnover matter in China? Evidence from the stock market’ Mr. Pierre Pessarossi and Mr. Laurent Weill from the Bank of Finland, BOFIT, Institute for Economies in Transition looked at 1,094 announcements concerning CEO turnover from Shenzhen and Shanghai listed companies from 2002 to 2010.
There are three contradictory theories in academia about what effect a switch in CEO should have and the paper set about testing them. They are:
The ability hypothesis – this says that a CEO is being replaced for manifest poor performance and the new one can only be better. Stock prices should outperform on such an announcement therefore.
The information hypothesis – this says weak boards make bad CEO choices. The fact they’re replacing one means they’re likely to replace with as bad or worse and a stock should underperform on the news
The scapegoat hypothesis – this suggests that firms don’t succeed or fail because of CEOs. Talent is basically fungible and so a replacement CEO should have no effect on the firm’s stock price.
They found strong evidence to support the ability hypothesis and the returns seem to be highly significant which should be of particular interest to investors with a shorter term time horizon. If you haven’t got time for the full paper here’s their summary conclusion.
‘We observe the greatest excess abnormal returns when the firm is owned by the central government, the successor CEO is an insider and not board chairman at the time of the appointment, the board is large, the departing CEO is young and has spent a longer term in office, and the enterprise is large and faces high financial risk.’
There’s a lot of other useful juice in here though and as I can’t find a working link I’ve attached a copy for your reference.
Does CEO Turnover matter in China
Happy Sunday