Overconfident CEOs more likely to make long term financial mistakes

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Overconfident CEOs more likely to make long term financial mistakes

Can over confidence be detrimental to your future? Can it be behind a person’s failure? Can it make you take potentially wrong decisions when in the coveted position?
Latest research states that this is possible. Chief executives who were over confident about their decisions, future plans and style of managing work, had more chances of being sued by shareholders than CEO’s who were balanced in their approach.

A CEO or Head of an organisation is supposed to be innovative, forward-thinking, value-creator, willing to take risks and someone who can take firm calls while making unconventional decisions.

This is where the thin line between confidence and over confidence comes in. What if they are way too confident?

According to a new study, researchers revealed that overconfidence has a flip side.
Researchers from Stevens Institute of Technology, US, found that overconfident CEOs are 33 per cent more likely to get sued by shareholders than the ones with normal confidence. “Shareholders are not powerless, their legal actions do make a difference in company operations and help the company better adhere to business regulations and laws,” said researcher Suman Banerjee.
The research covered leadership rosters of 1,500 leading global companies and a Stanford dataset that tracked nearly 1,400 shareholder-initiated class-action lawsuits against firms.

The team then assigned confidence scores to executives largely depending on what portions of their own companies’ stock options they had retained or divested. By these measures, half of the team’s total sample scored as overconfident.

In simple words, was the CEO over confident when taking important decisions related to stocks of the company. Banerjee explains smart CEOs as ones who diversify investments and invest in something different as a hedge against the unknown.

But over confident heads sometimes don’t do this. They hold onto their shares, even when they are underperforming in the market because they believe their own leadership is superior and innovative enough to overcome the market forces. They hope for a higher return because of their decisions.

The findings suggested that overconfident CEOs are more likely to make overly positive statements about their companies that are not yet supported by facts. For example, they might over-invest in the short term, or postpone the accounting or reporting of losses and other negative information.

The research team also found that a lawsuit by a shareholder works positively on the company’s decisions. A shareholder-driven lawsuit reduced a CEO’s confidence such that they began taking more prudent actions with their own companies’ stock options over time.

When the team investigated whether new CEOs inheriting companies from very confident CEOs react the same way, they found out that the new ones learned from the past mistakes. That is, newly hired heads were less likely to be overconfident.
“It’s a dynamic, self-correcting system, if shareholders are willing to use their power to rein in overoptimistic CEO behaviour, CEO performance and compliance, as well as company operations, can improve,” said Banerjee.

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