Extraordinary Corporate Decisions and the Psychology of CEOs

Abstract

For centuries research has focused on the outcomes of events with the notion that all decisions are executed by rational beings. On the contrary, many of the world’s most pivotal decisions are not executed by Homo Economicus but rather that of Homo Imperfectus. Therefore, it becomes prudent to explore the cognitive biases and irrationalities that exist and to identify the impact they have on decision making. As such, this thesis is made up of three empirical chapters which attempt to bridge the gap between psychology and finance in relation to mergers and acquisitions.

Current literature puts significant emphasis on the influence of overconfidence on the success of mergers and acquisitions whilst giving little attention to the contrary. Therefore, the first empirical chapter aims to explore the transfer mechanism between failure-induced cognitive dissonance and long-term shareholder value. Individuals attribute failure to their capabilities as opposed to external factors therefore - to reduce dissonance - they become more cautious in their decision making, innovate more, and are more receptive to potential risks than their counterparts; namely, overconfident individuals. As a result, cognitively dissonance individuals are shown to increase long-term shareholder value.

An additional aperture within literature is the emphasis of market perception of ESG scores and its impact upon long-term shareholder returns. Therefore, the second empirical chapter explores the impact of ESG scores on market valuation and how this impacts initial market response to M&A, company operations, and long-term shareholder wealth. The results suggest that acquirers with high ESG scores are overvalued and become more overvalued post-M&A despite no material difference in profitability thus destroying long-term shareholder wealth. This shows that companies have become so concerned with the stakeholder than they opt for virtue signalling at the expense of the shareholder.

The final empirical chapter is focused on the recent global COVID-19 pandemic and financial constraint. The findings of this chapter show that market participants do not consider financial constraint as a limiting factor during standard macroeconomic climates. However, when uncertainty increases, markets scrutinise financially constrained deals more thus dampening M&A announcement returns despite having no material impact to shareholder wealth in the medium term. Ultimately, this highlights that an exogenous event alone does not drive investor sentiment but rather increases market perception of uncertainty thus increases risk aversion driving markets to doubt acquirer ability to extract value from M&A.

The findings of this thesis have practical relevance for corporate executives, consultants, organisational psychologists, the corporate industry, and academia. Overall, this thesis provides valuable evidence to support the decision-making fallibility of Homo Economicus and seeks to highlight the cognitive biases of corporate decision makers. More importantly, the findings herein provide suitable evidence that corporate executives can arm themselves with to guard against such biases to preserve their reputation, increase chances of M&A success, and maximise shareholder wealth.