Hewlett-Packard, Pilot Licenses, and Risky Takeovers

The best high-flying CEOs really are flyers

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Steven Cherry:

Hi, this is Steven Cherry for IEEE Spectrum’s “Techwise Conversations.” This is show number 67.

We live in the age of CEOs. Last year, the average CEO earned [US]$11 million. Consider former Hewlett-Packard CEO Mark Hurd, who took home $58 million in 2008 and 2009. He left HP in 2010 after a sexual harassment scandal but still walked away with $23 million in severance, salary, equity awards, and so on. That was mere months after wasting a billion or so dollars of HP’s money in buying Palm.

That was at least an improvement on HP’s 2001 buyout of Compaq, which is generally regarded as having been a nearly complete waste of $25 billion. By the way, the two CEOs, Carly Fiorina and Michael Capellas, walked away with tens of millions of dollars each.

What makes a good CEO? According to Stephen McKeon of the University of Oregon and Matthew Cain of the University of Notre Dame, that’s a question has been subjected to endless research, including such characteristics as age, education, military experience and Depression-era upbringing, political affiliation, religion, and what researchers call overconfidence.

Cain and McKeon are the authors of a new research study. In it, they looked at the relationship between a CEO’s personal risk taking and the company’s corporate risk taking. Their conclusion: In contrast to overconfident CEOs, risk-taking CEOs often do better than the average when it comes to increasing their company’s value through risky acquisitions.

My guest today is one of those authors. Stephen McKeon is an assistant professor of finance at the University of Oregon’s Lundquist College of Business. He has a Ph.D. in finance from Purdue University and if I read his CV correctly has worked in both the wine and beer industries.

Steve, welcome to the podcast.

Stephen McKeon: Thank you very much, Steven.

Steven Cherry: First, maybe you could just restate the main finding of your paper. I think I kind of simplified it.

Stephen McKeon: Yes, I mean, essentially what we did is we looked for something we could measure in terms of personal risk taking outside the scope of the firm; in this case we used pilots of small aircraft. And essentially then what we looked at was a series of corporate policies. And what we found, just to summarize, is that these pilot CEOs, or these risk-taking CEOs, first of all were associated with higher levels of leverage, so more debt utilization in their firms; they were associated with more active mergers and acquisition policies, and then they were also associated with higher stock return volatility on average. So those were sort of the three main findings.

Steven Cherry: So basically they were bigger risk takers, right? They had more acquisitions, and they leveraged their firms to a greater degree.

Stephen McKeon: That is correct. All three of those things we found were essentially increasing the risk of their firms. So, the main idea is that people who are taking higher levels of risk in general or in their personal lives it appears are also associated with riskier policies when they head corporations.

Steven Cherry: And so they took greater risks, but you found that they did pretty well for their companies.

Stephen McKeon: Yeah, that’s right. I mean, risk taking in and of itself is not necessarily a bad thing, and in terms of the mergers and acquisitions, we actually found that particularly within a subset of firms that are called value firms—so these are more traditional firms, perhaps manufacturing firms—we found that the acquisitions that were engaged in by those CEOs had returns that were three times higher than the general population. So definitely there was some value creation in that group.

Steven Cherry: So on the corporate side, you looked at acquisitions as a sort of paradigmatic risky corporate behavior; on the personal side, you looked at pilot licenses because that’s a sign of risk predilection.

Stephen McKeon: Yeah. You know, ultimately the paper’s not necessarily about flying planes, it’s about risk taking, and as researchers when we can’t observe something directly, we’re forced to use a proxy. Now in this case we used piloting small aircraft, but we would have written the same paper using motorcycle data or perhaps aggressive drivers; other people in finance have used the number of speeding tickets when they had data that could essentially inform that measurement. So in a sense we used piloting. And it wasn’t clear at first that that was risky behavior; we actually had to collect mortality data, and we sort of compared the type of flying that CEOs engaged in—the category on the reports as “personal or business flying”—we compared that with a variety of other measures of transportation, or other modes of transportation I should say, such as motorcycles, hot air balloons; we compared it to crop dusters and of course passenger cars and commercial airlines. It was considerably more risky than most of those things—particularly, you know, sort of commercial airlines or charter aircraft, which would be alternatives.

Steven Cherry: And it turned out to be right up there with sky diving and mountain climbing and driving motorcycles.

Stephen McKeon: Yeah, that’s right. We didn’t actually measure sky diving, per se; we didn’t have data on that but certainly motorcycles. It was definitely—it was the highest of all the things that we could find data on. Motorcycles were close, followed a little ways behind by hot air balloons and helicopters. But there’s definitely an element of risk, and at least part of that comes from the fact that a lot of people in this category are doing this essentially as a hobby, so they’re not as experienced, for example, as a commercial pilot.

Steven Cherry: Now one of the things that I found striking about your paper is that you claim that this kind of risk taking is a genetic personality trait.

Stephen McKeon: Well, it’s interesting. As we began to study risk taking, and we went into the psychology literature a lot where they’ve done a lot more work in terms of behavioral aspects like risk taking, and what we found is that in fact the psychology literature has a term called sensation seeking. And essentially the desire to fly an aircraft is one of the highest predictors of this personality trait, and there’s been a tremendous amount of research on this trait. It turns out it is genetic, it’s a genetic heritable trait; it’s considered a stable personality trait, so it’s not something you can acquire. It’s interesting, because it brings up a good point. You should not interpret our results as suggesting that, you know, given any particular CEO—if they went out and got a pilot’s license it’s not necessarily going to make them a better CEO. What we think is that within this group of CEO pilots, we’re isolating a higher proportion that have this genetic trait. So that’s where we think the risk taking, this sort of behavioral consistency in risk taking, is coming from.

Steven Cherry: Now I started the podcast by talking about CEO compensation. You looked at compensation as well, didn’t you?

Stephen McKeon: Other researchers in the financial literature have looked at CEO risk taking, and one of the things that they found is that essentially, if you compensate people to take higher levels of risk, then you end up essentially inducing that type of behavior. And so one of the things we wanted to make sure of is that we hadn’t somehow just isolated a group that was being compensated to take higher levels of risk. And so we went in and we looked at compensation packages. And the other thing is we wanted to look at total compensation to make sure that, you know, some people think of flying as something that’s very expensive. It turns out it’s actually not that expensive; it’s certainly expensive if you want to own your own jet, but people can get into flying for actually a relatively small amount of money. So we found no differences in total compensation, so these are not like the most wealthy CEOs, for example. We also found no difference in the type of compensation that would induce risk taking. So there’s particular types of options where if you increase the volatility of your stock returns, that could end up being a profitable thing for you personally, but we did not find a differences along those lines.

Steven Cherry: So you said that a CEO can’t just go out and get a pilot’s license and be a better risk taker, but that the pilot’s license is sort of a marker of something that already exists. Maybe instead of these multimillion-dollar packages a corporate board should offer a plane, and then if they take it, then they know they probably have a good one, and the plane will be cheaper than the package anyway.

Stephen McKeon: It’s an interesting idea if you’re trying to isolate the sensation seekers among your candidates, but you know it’s not always the case that more risk taking is a good thing.

Steven Cherry: In an e-mail to me, you pointed out that not every high-flying CEO is a winner, and you cited Dennis Tyco, whose telecommunications company crashed in the dot-com bust. But I still kind of want to know whether HP’s new CEO Meg Whitman—I’d like to know whether she’s a pilot.

Stephen McKeon: It’s a good question. I don’t recall her being in our sample, but actually this data is totally publicly available to anybody; basically, the FAA maintains a database. It’s just a Web query, so you can go in, you can type a person’s name. Now the hard part is if you found, for example, if you found Meg Whitman in there, the question is, “Is it actually the same Meg Whitman?” So one of the things we did is we had to collect a third piece of information, often a birth date or an address or something like that, to actually be able to triangulate and be sure that we had the right guy in the FAA database. The interesting thing is that every single individual in our sample was, in fact, male. So we did not find a single female CEO that held a pilot’s license.

Steven Cherry: That’s interesting. It’s funny you say that you had to find a third piece of data. I did find a Mark Hurd, by the way, who was a pilot; he was the fifth pilot licensed by the state of Minnesota back in the 30s, but he died in 1969, so he’s not the HP Mark Hurd. Well,  thanks a lot for coming on board and discussing your research with us, Steve.

Stephen McKeon: Absolutely. Thank you very much.

Steven Cherry: We’ve been speaking with Stephen McKeon of the University of Oregon about a research study showing personal risk taking to be a characteristic of successful CEOs.

For IEEE Spectrum’s “Techwise Conversations,” I’m Steven Cherry.

This interview was recorded 26 September 2011.
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