Business Exposed120
people who will say that you’re splendid, but it is much more
useful – and lucrative – to really put yourself to the test. And
if you reward them for it, and only if you reward them for it,
CEOs – like most people – will actually be brave enough to take
this test.
Dirty laundry: who is hiding the bad stuff?
Let me end this chapter with a bit of intrigue. Are rms
sometimes inclined to conceal negative information, for instance
in their communications to shareholders? What do you think?
Ah . . . I guess I’m becoming predictable . . .
Some years back, two researchers – Eric Abrahamson from
Columbia Business School and Choelsoon Park, at the time at the
London Business School – examined this question systematically.
Their answer – perhaps not surprisingly – was “yes”.
Fortunately, however, they did not stop there. Because perhaps a
more interesting question is, “Who is concealing the bad stuff?” or,
put differently, which rms are inclined to hide their dirty laundry?
Eric and Choelsoon investigated so-called letters to shareholders
of 1,118 companies as published in these rms’ annual reports.
There is quite a bit of evidence that these letters to shareholders
form one of the main communication devices of rms to their
shareholders and that they have a real impact on companies’
share price. Eric and Choelsoon, through computer analysis of
the wording of these letters, measured how much negative infor-
mation was disclosed in them.
In addition, they collected information on a bunch of other
variables, such as the rms’ (subsequent) performance, the
percentage of outside directors on their boards, shares held by
those outside directors, institutional ownership of the companies,
auditor reports, etc. And they uncovered some pretty gritty stuff.
Their rst nding was: company presidents – who ofcially write
these letters – are tempted to lie and hide their company’s bad
news. I reckon that is only human. My guess is many of us might
1215
n
Liaisons and intrigues
be tempted to tone down our failures (and play up our achieve-
ments a bit) in such public statements, to not feel embarrassed
and make ourselves look more successful. But there are things
that can be done, in terms of corporate governance, to stem their
and our natural inclination to obscure the truth.
That brings me to nding number two: Eric and Choelsoon
showed that having outside directors on the board made rms lie
less. The more outside directors rms had, the more forthcoming
they were with their bad news. Similarly, having large institutional
investors prompted rms to be more open about their failures in
these letters to shareholders. Large institutional investors tended
to monitor the rms they invest in quite closely, which apparently
gave them less opportunity to conceal the negative stuff.
But then came nding number three: If we gave our outside
directors shares in the company, the results ipped! Firms that
had outside directors who also were major shareholders were less
forthcoming in disclosing their bad news. It seems that having
an ownership stake in the company created a conict of interest
for these people which induced them to stimulate their rm to
hide its dirty laundry rather than disclose it.
Moreover, having lots of small institutional investors – who
don’t scrutinize companies as strictly – also made the results ip:
rms with lots of small institutional investors hid their bad news
more often, probably because they were afraid these investors
would run at the slightest hint of bad news (which they are
indeed known to do), which could snowball and send the rm’s
share price plummeting. To conclude, having outside directors
may be a good thing, but only if they don’t have a lot of shares.
Institutional investors may be a good thing too, but only if they
do have a big stake.
By the way, interestingly, Eric and Choelsoon also found that
those companies that did not disclose their bad news were
exactly the companies whose top managers would quickly sell
a whole bunch of their privately held shares shortly after the
release of the (over-optimistic) letter to shareholders. I guess
corporate crooks don’t only lie: they also steal.
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