How a company’s consistent earnings can get a CEO fired

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Release Date: October 27, 2020

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“Firms with high earnings persistence understand that the performance in the current period is likely to carry forward with the incumbent CEO, so they’re more likely to fire a CEO who yields poor earnings. ”
University at Buffalo School of Management

BUFFALO, N.Y. — When a corporation’s earnings are steady, its board of directors is more likely to fire their CEO after a bad earnings period, according to new research from the University at Buffalo School of Management.

Recently published in Management Science, the study analyzed corporate earnings persistence—whether or not the earnings of a company are expected to recur or not—and how it impacts CEO turnover.

“Firms with high earnings persistence understand that the performance in the current period is likely to carry forward with the incumbent CEO, so they’re more likely to fire a CEO who yields poor earnings,” says the study’s lead author Inho Suk, PhD, associate professor of accounting and law in the UB School of Management. “In contrast, boards of firms with low earnings persistence are less likely to fire a CEO with a poor performance because it’s likely temporary.” 

The researchers analyzed data of more than 1,500 CEO turnovers from 1993-2017, measuring earnings performance by industry-adjusted return on assets (IAROA), with the three-year average of IAROA, industry-adjusted ROA changes and non-Generally Accepted Accounting Principles (GAAP) earnings as alternative measures.

Their results show that earnings persistence is the most direct and dominant earnings attribute in explaining CEO turnover decisions.

“Compared to CEO compensation, turnover decisions have longer-term consequences on firm performance and corporate policies,” says William Kross, PhD, professor of accounting and law in the UB School of Management. “Failure to replace a poorly performing CEO, or to retain a CEO with potential, is the costliest manifestation of agency conflicts.”

Suk and Kross collaborated on the study with Seung Won Lee, PhD, assistant professor of accounting in the Penn State Harrisburg School of Business Administration.

The UB School of Management is recognized for its emphasis on real-world learning, community and economic impact, and the global perspective of its faculty, students and alumni. The school also has been ranked by Bloomberg Businessweek, Forbes and U.S. News & World Report for the quality of its programs and the return on investment it provides its graduates. For more information about the UB School of Management, visit mgt.buffalo.edu.

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