Want innovative CEO's? Keep looking to young techies

August 01, 2002

LINTHICUM, MD - Research and Development spending to generate innovative new products is strongest at corporations whose CEO's are younger, invest heavily in their own firms' stock, and have experience in marketing, engineering, or R&D, according to a study in a journal of the Institute for Operations Research and the Management Sciences (INFORMS®).

In contrast, firms led by CEO's who are attorneys or approaching retirement spend much more conservatively on research projects, whose success cannot be guaranteed and whose failure can carry a hefty price.

"Research suggests that technical careers and educations teach people to value innovation," says Vincent L. Barker III of the University of Kansas School of Business. "CEO's with technical or marketing career experience seem to believe that spending money on R&D is just the right thing to do when faced with the uncertainty of making strategic decisions in a complex world."

In contrast, CEO's with career experience in the law or areas like accounting, finance, and administration may tend to feel that conserving cash is the "right thing to do," he conjectures.

"CEO Characteristics and Firm R&D Spending" is by Prof. Barker and George C. Mueller of the University of Wisconsin-Milwaukee. It appears in the journal Management Science, an INFORMS publication. A summary of the study can be found online at http://www.informs.org/Press/CEOR&D.pdf.

CEO background the key

The study shows that, on average, the background of CEO's has a greater impact on company R&D programs than previously believed. Earlier studies had tied the level of a company's R&D spending to the nature of its industry, corporate strategy, and the level of ownership by institutional shareholders.

The study also takes issue with previous studies that maintain that there is a straight correlation between a CEO's level of education and commitment to R&D. The authors found that among CEO's with at least an undergraduate degree, education beyond a B.A. or B.S. did not correlate with R&D spending.

Indeed, for graduate degrees, educational specialties were more important. CEO's with graduate science or engineering degrees were more likely to spend money on R&D, while CEO's with legal degrees were more likely to spend less. Meanwhile, having an MBA degree had relatively little impact on that CEO's decisions about research spending.

Other findings of the study were that CEO's have more control over R&D spending as their tenure in the CEO position increases. For example, the negative correlation between R&D spending and having a legal degree was much stronger for longer-tenured CEOs. This is consistent with past research findings that long tenure increases CEO power. Likewise, CEO age played a significant role in R&D spending. Older CEO's, nearing retirement, tended to underinvest in R&D relative to their competition.

Recommendations

The study has several practical ramifications, say the authors.

•   Given the findings, they write, strategic decision makers may be able to predict a competitor's R&D spending based on a profile of its CEO.

•   Since certain CEO aspects may be molded by organizations through training, companies commited to R&D may benefit from executive development programs that rotate managers through significant assignments in "output functions" like research, engineering, marketing, and sales.

•   Boards that encourage R&D spending and innovation need to watch closely the incentives that the CEO has for making long-term investments in R&D. Stock ownership is one incentive that may increase R&D spending.

•   Compensation contracts for older CEO's should not overemphasize current profitability, but should contain a schedule of stock grants for the CEO in retirement. This strategy would discourage the CEO taking a conservative approach to R&D in the years heading into retirement.

•   Boards need to monitor the investment decisions of longer-tenured CEO's, who are more likely to make these decisions based on personal preferences.

Data

The authors used operations research models to analyze sample data drawn from the 1989 and 1990 Business Week 1,000 lists and the Business Week R&D Scoreboard special issue in corresponding years. To be sampled, firms had to report R&D expenditures in Business Week's R&D Scoreboard special issue in the corresponding sample years. This ensured that firms were selected from industries where funds are spent on R&D. Complete data from all sources were available for 172 firms.

The authors measured total R&D dollars spent per employee by each firm relative to its industry average, thus correcting for differences in R& D spending between industries. Relative R&D spending was calculated by subtracting from an individual firm's R&D spending amount based on the industries in which the firm operated.

To measure CEO career experience, each CEO's listed experiences were coded by the authors into six categories: finance/accounting, legal, productions/operations, administration, marketing/sales, and engineering/R&D. CEO age was measured in years. CEO tenure was measured as the number of years since being appointed CEO. The value of stock ownership was measured as the number of shares owned by the CEO multiplied by stock price per share on the last day of the stock market in the year sampled.
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The Institute for Operations Research and the Management Sciences (INFORMS®) is an international scientific society with over 10,000 members dedicated to applying scientific methods to help improve decision-making, management, and operations. Members of INFORMS work in business, government, and academia. They are represented in fields as diverse as airlines, health care, law enforcement, the military, the stock market, and telecommunications. 2002 is the 50th anniversary of organized operations research in the United States. 1952 was the year that the journal Operations Research and the Operations Research Society of America, one of the founding societies of INFORMS, were born. The INFORMS website is at http://www.informs.org .

Institute for Operations Research and the Management Sciences

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