Companies can suffer by restricting CEO mobility

Companies negatively impact growth by preventing CEO mobility through long employment contracts and non-compete clauses, reveals new research by Aalto University School of Business.

The study, conducted by Timo Korkeamäki, Dean of Aalto University School of Business, and Gönül Çolak from Hanken School of Economics in Helsinki, Finland, studied how corporate risk-taking, and thus growth, are impacted when the CEO believes they are in their final role.

The research idea is based on the theoretical work of Nobel Laureate Bengt Holmström who discussed the effects of career opportunities on risk-taking already in the 1980's. However, Korkeamäki and Çolak measured the value of opportunities in a new way.

They found that career concerns, as a result of restrictive contracts, can reduce a CEO's willingness to take risks, as those with limited outside employment options seek to safeguard their current positions – which can be detrimental to a firm’s long-term success.

“With the risk aversion of immobile CEOs, potential agency problems arise, because limited outside opportunities may induce managers to act more conservatively than what would be optimal for their firms' shareholders,” says Korkeamäki.

The researchers found that an increase in a CEO's ability and willingness to change jobs (CEO mobility) can diversify their human capital and reduce their conservatism.

This highlights that a CEO is more enthusiastic about risk-taking as they know they have other options – risks which pay off can increase shareholder value.

“Our findings provide robust new evidence showing that preventing CEO mobility limits their tendency to take policy risks, thus hurting the business in the long run. In fact, it is actually good for people to move around, and perhaps CEOs should be instructed to keep their LinkedIn page and resumé up to date, rather than drafting contracts that force them to stay with the company”, says Korkeamäki.

Link to the publication (sciencedirect.com)