Cláudia Custódio, Miguel A. Ferreira, and Pedro Matos
Generalists versus specialists: Lifetime work experience and Chief Executive Officer pay
Journal of Financial Economics | Volume 108, Issue 2 (May 2013), 471–492

Market-based theories predict that, if a competitive labor market determines executive compensation, more productive CEOs should earn higher pay. Recent academic literature extends this by arguing that CEO skills also matter. A CEO with skills well suited to a particular firm (firm-specific skills) might not be as effective at another firm or in another industry, even if she has extensive experience at her firm. Hence,“generalist” managers that possess transferable skills should earn a premium over “specialist” managers with similar characteristics and who are employed by comparable firms. This is because more general skills increase a CEO's potential mobility, which translates into more bargaining power in the labor market. In this paper, we test the hypothesis that CEOs with more generalist skills are paid a premium. We estimate the generalist pay premium to be 19%, which represents nearly a million dollars a year in additional compensation on average.

The general ability index

CEO ability cannot be observed directly, so in order to test the effect of skill composition on compensation we create a proxy for the “generality” of CEO human capital. Our General Ability Index (GAI) measures the degree to which skills are transferable across firms and industries and provides a quantitative benchmark by which managers can be compared. In constructing the index, we consider five channels through which a manager acquires general rather than specific skills. These include the number of different (1) positions, (2) firms, and (3) industries in a CEO's lifetime work history, as well as (4) whether the CEO held at CEO position at a different firm, and (5) whether the CEO worked for a conglomerate. We expect all five factors to have a positive effect on the general managerial ability of a CEO.

Data on these factors comes from CEO profiles in the BoardEx database, which contains biographical data and information on the experience, education, notable achievements, and other characteristics of corporate leaders. In order to avoid problems caused by high correlation between the characteristics of the CEO and minimize measurement error, we combine these factors into a one-dimensional index by extracting the first principal component, which is a new and single variable that accounts for as much of the variability in the data as possible. As expected, all factors contribute positively to the index, indicating that a manager with more general skills have a higher index value. We compile a panel dataset of CEOs by manually extracting those top executives of S&P 1,500 firms in ExecuComp who also have profiles in BoardEx, and our sample includes nearly 4,500 CEOs with roughly 32,500 different past positions.

Using the GAI index, we classify CEOs as either generalists or specialists, based on whether their index values fall above or below the median in a given year, respectively. An example of a generalist CEO is Michael H. Jordan, whose index value of 5.87 (as of 2007) which placed him fifth highest in the GAI index. His resume includes being CEO of PepsiCo, Westinghouse Electric, CBS, and Electronic Data Systems, as well as other positions in a variety of industries. Contrast this with a specialist such as James Skinner who was CEO of McDonald's from 2004 to 2012, having worked at McDonald's for his whole professional life, and whose index values ranked him below the 10th percentile of GAI.

Results and discussion

Our analysis provides direct evidence of the increased importance of general managerial skills over the sample period of 1993–2007. Consistent with the idea that CEOs have acquired more general skills, we find that the GAI increases over time, as illustrated in Figure 1. In addition to the GAI index, we develop a new measure, “Generalist Excess Pay,” that captures the pay premium of a “multi-industry” CEO with diverse experience. It is analogous to the excess value measure used in studies of corporate diversification and captures the difference between CEO Total Pay and the imputed pay from the portfolio of the median pay of single-industry CEOs who match the CEO's past industry experience. The average generalist excess pay is positive over the entire sample period, growing from about $1 million to more than $2.7 million by 2007.

1: Timeseries of managers' general skills and pay
Both skills and pay increased over the years, although both have levelled off after 2002.

Our primary econometric tests estimate the “marginal” effect of the GAI on compensation. We use ordinary least squares and fixed effects regressions, allowing us to control for unobserved, time invariant CEO heterogeneity, such as innate talent. The results confirm that the effect of GAI on compensation is statistically significant and economically meaningful. As reported in Table 1, a generalist earns up to nearly 19% more in total pay than a specialist, which amounts to about $850,000 per year (from column 4). The dependent variable in these regressions is the total compensation of the CEO, and coefficients of interest are those of the General Ability Index (a continuous variable), and of the General Ability Index Dummy (a variable that has the value of one if the CEO is a Generalist and zero otherwise). Because the dependent variable is the log of compensation and because the index is standardized to have zero mean and a standard deviation of one, these coefficients can be easily interpreted as a percentage. For column 1, an increase of a standard deviation in the General Ability Index increases compensation by 11.7%.

1: Selected regression results
OLS Firm Fixed Effects CEO Fixed Effects OLS Firm Fixed Effects CEO Fixed Effects
{General Ability Index (Continuous)} 0.117*** 0.073*** 0.094**
{General Ability Index Dummy} 0.186*** 0.136*** 0.110***
{CEO Age} –0.007*** –0.006*** 0.000 –0.007*** –0.006*** –0.001
{CEO Tenure} –0.006*** 0.001 0.023* –0.007** 0.001 0.014
{External Hire Dummy} 0.124*** 0.141*** –0.126 0.134*** 0.151*** –0.117
{MBA Dummy} 0.025 0.050** 0.031 0.054**
{CEO-Chair Dummy} 0.169*** 0.059*** 0.063** 0.177*** 0.063*** 0.065**
{First Year as CEO Dummy} 0.096*** 0.125*** 0.188*** 0.090*** 0.123*** 0.185***
{Further firm-level controls} Yes Yes Yes Yes Yes Yes
{Fixed effects} No Firm CEO No Firm CEO
{R-squared} 0.503 0.748 0.799 0.499 0.748 0.799
One, two, and three stars mark statistical significance at the 10%, 5%, and 1% level, respectively.
Generalists earned on average more compensation than specialists, holding other factors constant. Depending on the measure and specification, the extra compensation seems to have been between 7.3% and 18.6% more.

The effect holds for individual cash and equity components of pay, in addition to total pay. Furthermore, we find the increase in pay is highest when a firm that currently has a specialist CEO externally hires a generalist, evidence that general managerial skill commands a premium in the labor market at the time a new compensation package is set.

Alternative explanations for the positive relation between CEO pay and general managerial skills exist, but we find the effect of GAI to exist beyond these alternative explanations. For instance, it could be that generalist CEOs are also more talented, and that is why they are paid at a premium. However, including factors such as innate CEO talent, firm size, firm performance, corporate governance, and managerial risk aversion as control variables does not affect the result. We also address selection bias concerns, in other words, the possibility that CEOs and firms are matched for other reasons than the general ability of the CEO and that are not observed in the data. For instance, we use firm and CEO fixed effects regressions, which is an econometric technique that aims to capture the effect of unobserved CEO and firm characteristics that do not vary overtime. Overall, the results support an efficient market-based explanation of the premium awarded to CEOs with more general skills, and are also consistent with optimal contracting and the view that boards make merit-based compensation decisions.

Nihal Chand (1710–1782): Lord Krishna with his Spiritual Lover Radha. India, 1750.. The rulers of the 18th century Hindu kingdom in Rajasthan, India, were referred to as Rajputs. They ruled side-by-side with the Islamic Mughal Empire. Their own distinct style of paintings was called Rajput paintings. Religious, mystical, or spiritual angles were frowned upon by Mughals, but Rajput paintings (often miniatures or wall paintings in the royal courts) covered themes from the life of the Rajputs or scenes from ancient epics such as Mahabharata, Ramayana, and the life of Krishna. The pigments were made from minerals, sometimes from semi-precious stones. The above painting hangs in the Allahabad Museum in India.

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