Firm risk and the power of the Chairman and CEO in a civil law country: evidence from Spain

Abstract

Many authors have examined the effect of various control mechanisms on firm value, but have devoted little attention to the effect of these mechanisms on firm risk. This paper studies the effect of different variables related to the power of the chairman and chief executive officer (CEO) on firm risk in Spain. Decisions taken by both the chairman and the CEO are very important in order to attain the shareholders' objectives. Thus, decisions relative to both posts can be considered very relevant from the human resources point of view. There is little previous empirical evidence on this topic, and what there is comes from the US. Most results are consistent with what we call a ‘power perspective’. That is, we observe a positive relation between firm risk and combining in the same person the positions of chairman of the board and CEO. We also find a positive relation between firm risk and the status of both leaders as founding partners, and a negative relation between firm risk and board size.

Keywords:

• CEO
• chairman of the board
• human resources
• power
• risk

Acknowledgement

The authors are grateful to Fundación CajaMurcia for its financial support.

Notes

1. As pointed by Pfeffer (1981), most definitions of power include an element indicating that power is the capability of one social actor to overcome resistance in achieving a desired objective or result. Thus, power is directly related to the possibility of influencing decisions.

2. The CNMV is equivalent to the US Securities and Exchange Commission.

3. Sistema de Análisis de Balances Ibéricos, compiled by Bureau Van Dijk.

4. This variable corresponds to the total risk of the company, so that it is directly related to systematic risk (BETA) and specific risk (SRISK). Consequently, it would not be surprising if the relations observed for these variables also pertain for total risk.

5. We considered using Value at Risk (VaR) measures, but VaR is suitable for shorter period analysis and not for the long periods that we examine. In addition, VaR can be estimated in many different ways, providing very different results (Jorion 2000). Thus, we decided to employ the variables we have defined as dependent variables. These variables are common in corporate finance and corporate governance studies.

6. Control rights is defined by La Porta et al. (2002) as the fraction of a firm's voting rights, if any, owned by its controlling shareholder. They consider that there is a controlling shareholder if the sum of a shareholder's direct and indirect voting rights exceeds 10%. When two or more shareholders meet such a criterion for control, La Porta et al. (2002) ascribe control to the shareholder with the largest (direct plus indirect) voting stake.