Measuring CEO overconfidence: Evidence from acquisitions
Overview
Research articles suggesting that individuals are affected by various behavioural biases, particularly overconfidence, have received significant attention from both psychologists and finance researchers since early hubris theory and numerous articles linked overconfidence with various corporate crises. Overconfidence is especially relevant in relation to outcomes individuals believe to have under their control, such as mergers and acquisitions. CEOs have significant influence over such high-risk decisions and are actively involved in their process. In fact, CEO overconfidence has been established as one of the most common explanations behind value destruction in acquisitions.
A particular challenge, in research terms, is the lack of direct measurement when collecting data for CEOs. Given this limitation, researchers have developed several measures from secondary data to assess executive overconfidence. The most used measures of managerial overconfidence are CEO stock options, the number of press articles in leading business publications describing the manager as “confident/optimistic”, excessive compensation, acquirers involved in serial deals in a very short period, and premiums paid for target firms in mergers and acquisitions.
A recent study (Ismail and Mavis, 2022) proposes an alternative measure of CEO overconfidence directly related to the event in question (i.e., acquisition). It establishes a direct comparison between a forecast regarding operating synergies made by the CEO prior to the deal and the actual realised operating synergies after the acquisition deal in what is termed the synergies forecast error (SFE). The higher the forecasted synergies relative to the actual synergies the more overconfident the CEO is. Applied to the forecasted synergies for each deal from the U.S. Securities and Exchange Commission, the study offers a direct measurement method of CEO overconfidence, directly linking to the corporate decision in question using the CEO's estimations of synergies toward a specific deal, rather than outsiders' views. The forecasted operating synergies are subsequently assessed against the actual realised operating synergies; in other words, generated synergies approve or disapprove estimated-forecasted synergies made by the CEOs themselves.
Using this new measure of CEO overconfidence (SFE), research suggests that overconfident CEOs pay higher takeover premiums and destroy more value for the acquiring firm. More specifically, CEOs with higher SFE are shown to translate this into $294.29 million value destruction for the average acquiring firm in the sample, incur higher capital expenditures, generate equity issues, and lead to lower levels of innovation.
Team
Principal investigator
Dr Christos Mavrovitis
Senior Lecturer in Finance and Accounting
Biography
Christos is a Senior Lecturer of Finance at the Surrey Business School. He graduated from the University of Athens with a BSc degree in Economics and obtained an MSc degree from Durham Business School in the field of Corporate Finance. He completed his PhD in Mergers and Acquisitions (M&As) at the Henley Business School (ICMA Centre), University of Reading.
His research focuses on mergers and acquisitions, CEO turnovers, CEO overconfidence, asset sales, and CEO acquisitiveness, with particular emphasis on their implications for shareholder value creation. His work is regularly presented at leading conferences in North America and Europe and has been published in journals such as the Journal of Corporate Finance, Financial Management, European Financial Management, European Journal of Finance, Long Range Planning, and the Journal of Financial Research. He also contributes to teaching across undergraduate, postgraduate, and doctoral programmes in finance.
Christos plays a leadership role in supporting colleagues' professional development, having co-led the design and implementation of Surrey Business School's mentoring framework for academic promotion, with a particular focus on mid-career colleagues. He also serves as Programme Director of the MSc in International Corporate Finance and is a Senior Fellow of the Higher Education Academy. In addition, he is a Certified Management and Business Educator (CMBE), awarded by the Chartered Association of Business Schools, and a UK Statistics Authority Accredited Researcher, enabling him to access and analyse de-identified secure data in trusted research environments.