The People/Performance Balance in IPO Firms: The Effect of the Chief Executive Officer's Financial Orientation
Andrews, Alice O., Welbourne, Theresa M., Entrepreneurship: Theory and Practice
Welbourne and Andrews (1996) studied IPO firms and found that Tobin's Q, at the time of the IPO, was lower for firms that they coded as having higher levels of human resource value (HR Value). However, those same firms were more likely to survive five years after the IPO. Given that finding, this study examines one factor that may influence the firm's choice between maximizing short-term financial performance (doing well at the IPO) or long-term performance (maximizing HR value). Using the theory of upper echelons (Hambrick & Mason, 1984), we show that the decision on how to balance these forces is shaped in part by the chief executive officer's (CEO) functional background. We focus on CEOs with primary training in finance because they will most closely identify with investment community pressures to perform well at the time of the IPO. In two different samples of IPO firms, we find that the CEO's financial background is associated with lower levels of human resource value, but, contrary to what we expected, having a finance-oriented CEO does not maximize short-term gains in the IPO.
Long-term competitive advantage versus short-term shareholder value is a debate that has been fueled by an accelerating Dow Jones Industrial Average. As a result, CEOs often are torn between the need to balance long-term investments that will provide competitive advantage with the reality that their pay often depends on short-term performance goals (e.g., bonus, stock options). In a world of omniscient actors, maximizing short-term value would result in long-term competitive advantage, but this rational model deteriorates under conditions of uncertainty or where companies have little control over their environment (Pfeffer & Salancik, 1978). Nowhere does the model of perfect information collapse faster than with entrepreneurial companies, especially companies that recently have conducted an initial public offering (IPO). IPO failure rates are comparable to that of start-ups. For example, Zeune (1993) found that only 58% of firms going public in the 1980s on the New York Stock Exchange, American Stock Exchange , or NASDAQ survived until 1989.
Few studies have examined the reasons for IPO firm failure, except for cursory treatment in the finance literature (cf. Altman, 1988). The role of employees as a strategic asset is often overlooked, yet clearly it is a part of the equation determining the IPO firm's ability to survive the longer term (Welbourne & Andrews, 1996).
Welbourne and Andrews (1996) found that firms providing long-term rewards to employees and firms indicating they value employees  increased their chances of survival dramatically. Valuing employees alone improved survival. (Companies one standard deviation above the mean on valuing employees increased survival chances from .70 to .79, firms one standard deviation below the mean on value decreased their survival chances from .70 to .60). However, the authors also found that high scores on human resource value were negatively associated with the firm's short-term performance (Tobin's Q at the time of the IPO). Although this research was based on archival information, the results suggest that IPO firms face pressures to de-emphasize their investments in people; the firms actually were penalized by the investment community for making a public statement in the prospectus about how much they value their employees. Thus, in order to maximize short-term IPO performance, firms may want to minimize HR value. On the other hand, in order to improve long-term performance (survival), firms should maximize HR value. As IPO firms specifically are trying to create shareholder value while subsequently managing for survival, this setting is an ideal place to understand how entrepreneurial firms attempt this balance.
Our study focuses on the firm at the time of the IPO, and we are particularly interested in the determinants of human resource value. …