The effect of CEO power on overinvestment

Huai-Chun Lo () and Shin-Rong Shiah-Hou ()
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Huai-Chun Lo: Yuan Ze University
Shin-Rong Shiah-Hou: Yuan Ze University

Review of Quantitative Finance and Accounting, 2022, vol. 59, issue 1, No 2, 23-63

Abstract: Abstract Studies on CEO power show that more powerful CEOs have more incentive to use their managerial control to make decisions that are beneficial to themselves rather than shareholders. Research also finds that CEOs can obtain personal benefits through overinvestment. The question that arises is whether CEOs with stronger decision-making power overinvest. We refer to three views on the effect of CEO power on overinvestment. Under the discretion effect, CEO power is positively associated with overinvestment, as powerful CEOs have more discretion and may use overinvestment decisions to generate more personal benefits. Under the risk aversion effect, CEO power is negatively associated with overinvestment, as powerful CEOs are more risk-averse. Under the ability effect, powerful CEOs with better managerial ability can make investment decisions efficiently and then are less likely to overinvest. We construct a composite index for CEO power by combining seven CEO characteristics. Our evidence indicates that the negative relationship between CEO power and overinvestment can be attributed to the risk aversion effect and the ability effect prevailing over the discretion effect.

Keywords: Overinvestment; CEO power; Investment inefficiency (search for similar items in EconPapers)
JEL-codes: G31 M41 (search for similar items in EconPapers)
Date: 2022
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Citations: View citations in EconPapers (6)

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DOI: 10.1007/s11156-022-01060-0

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