Corporate performance and CEO dismissal: The role of social category faultlines

• Published date: 01 September 2021
• Author: Alana Vandebeek,Wim Voordeckers,Jolien Huybrechts,Frank Lambrechts
• Date: 01 September 2021
• DOI: http://doi.org/10.1111/corg.12376

EDITOR'S PICK

Corporate performance and CEO dismissal: The role of social

category faultlines

Alana Vandebeek

1

| Wim Voordeckers

2

| Jolien Huybrechts

3

|

Frank Lambrechts

2

1

Faculty of Economics and Business, Work and

Organisation Studies, KU Leuven, Antwerpen,

Belgium

2

Faculty of Business Economics, RCEF

Research Center for Entrepreneurship and

Family Firms, Hasselt University, Hasselt,

Belgium

3

School of Business and Economics,

Department of Organization & Strategy,

Maastricht University, Maastricht, The

Netherlands

Correspondence

Wim Voordeckers, Hasselt University, Faculty

of Business Economics, RCEF Research Center

for Entrepreneurship and Family Firms,

Martelarenlaan 42, 3500, Hasselt, Belgium.

Email: wim.voordeckers@uhasselt.be

Abstract

Research Question/Issue: This study investigates the moderating role of social cate-

gory faultlines in the relationship between firm performance and CEO dismissal. We

also examine how two board contingencies—the presence of board evaluation and

the number of board committees—affect how social category faultlines moderate the

performance–CEO dismissal relationship.

Research Findings/Insights: Using panel data on Belgian listed firms covering 2006

to 2014, we find that the negative relationship between firm performance and the

likelihood of CEO dismissal is significantly weaker when boards experience social cat-

egory faultlines. Further investigation of board contingencies demonstrates that

social category faultlines have a stronger influence on the performance–CEO dis-

missal relationship when the board does not engage in board evaluation or has

greater numbers of board committees.

Theoretical/Academic Implications: This study builds on the social identity perspec-

tive by providing empirical support for social category faultlines within the context

of boards of directors. Social category faultlines lead to identity-based subgroups

within the board, which reduce directors' identification with the board as a whole,

ultimately impacting the board's capability to dismiss a poorly performing CEO.

Moreover, our study demonstrates how board contingencies can promote and/or

weaken directors' identification with the board, which affects the salience of

identity-based subgroups.

Practitioner/Policy Implications: This study offers insights for practitioners inter-

ested in improving board effectiveness. Our evidence implies that decisions con-

cerning the appointment of directors should be based on criteria that take faultlines

and subgroups into account. Furthermore, our findings highlight the importance of

strengthening the superordinate board identity by implementing initiatives such as

board evaluation.

KEYWORDS

corporate governance, board composition, board diversity, CEO dismissal, faultlines

Received: 9 December 2019 Revised: 1 April 2021 Accepted: 3 April 2021

DOI: 10.1111/corg.12376

436 © 2021 John Wiley & Sons Ltd Corp Govern Int Rev. 2021;29:436–460.wileyonlinelibrary.com/journal/corg

1|INTRODUCTION

The duty of boards of directors to select, compensate, and fire the

CEO is a fundamental element of corporate governance (Lel &

Miller, 2008). The decision to replace a CEO is one of the most impor-

tant responsibilities of a board because it can have long-term implica-

tions for the firm's investments, operations, and financing (Huson

et al., 2001). Directors have a fiduciary duty to make replacement

decisions in an informed way, in good faith, and with the best inter-

ests of the corporation in mind (Johnson et al., 1996).

Extensive research has indicated that the relationship between

corporate performance and CEO dismissal is a measure of the effec-

tiveness of a corporate governance system (Durukan et al., 2012).

Empirical studies have shown that firm performance is indeed consis-

tently negatively related to CEO dismissal (Brunello et al., 2003;

Denis & Denis, 1995; Fiordelisi & Ricci, 2014; Furtado & Karan, 1990;

Kesner & Dalton, 1994; Lau et al., 2009; Ocasio, 1994). However, the

direct relationship between firm performance and CEO dismissal fails

to explain why poorly performing CEOs sometimes remain in their

position, and it has been suggested that the relationship between

poor performance and CEO dismissal is moderated by overlooked fac-

tors (He & Fang, 2016). Specifically, most of the board research has

considered the board's composition as one of the most fundamental

dimensions (Haleblian & Rajagopalan, 2006) and has studied the

effects of board composition in terms of the type of directorship

(i.e., inside, independent, or affiliated director) and also from a demo-

graphic perspective that defines board composition in terms of char-

acteristics such as age and gender.

While the notion of diversity in boards' demographic characteris-

tics has received considerable attention (Erhardt et al., 2003;

Siciliano, 1996), there is still little attention paid to the interaction of

multiple demographic attributes. In contrast to earlier studies of diver-

sity that examined the heterogeneity or dispersion of one diversity

attribute at a time, faultline theory suggests that the interaction of

multiple demographic attributes affects group dynamics to a greater

extent than separate attributes (Lau & Murnighan, 1998). Group

faultlines are defined as hypothetical dividing lines that split a

group into multiple subgroups that are relatively homogeneous based

on a set of diversity attributes (Lau & Murnighan, 1998) and considers

how a bundle of different demographic characteristics may influence

group processes and performance outcomes (Thatcher & Patel, 2012).

Because boards of directors are groups of individuals who provide cor-

porate oversight (Forbes & Milliken, 1999; Merchant & Pick, 2010),

group faultlines can be expected to play an important role in deter-

mining their effectiveness. In this study, we will examine the effect of

group faultlines (based on the attributes of age, gender, and family

membership) on the capability of boards to dismiss a poorly

performing CEO.

There are a number of studies that examine group faultlines on

boards of directors and have reported largely negative organizational

and team consequences (i.e., Basco et al., 2019; Basco &

Voordeckers, 2015; Crucke & Knockaert, 2016; Kaczmarek

et al., 2012a, 2012b; Tuggle et al., 2010; Van Peteghem et al., 2018;

Vandebeek et al., 2016; Veltrop et al., 2015). To date, only one study

has focused on how faultlines affect directors' capability to dismiss an

underperforming CEO (Van Peteghem et al., 2018). This study found

that faultlines negatively impact the firm performance–CEO dismissal

relationship from a sample of US-listed firms using a faultlines mea-

sure based on a diverse mix of informational (i.e., directly job related)

and social-category attributes (i.e., entailing a social identity; Jehn

et al., 2008; Jehn & Rupert, 2008). However, this faultlines approach

suffers from a limitation in that “measuring a single faultline based on

characteristics that reflect very different aspects of individuals

may hinder interpretation of its effect”(Hutzschenreuter &

Horstkotte, 2013, p. 719), making precise theorizing very difficult

(Bezrukova et al., 2009). In fact, recent faultline literature makes a dis-

tinction between faultlines based on social category attributes, which

entail a certain social identity (e.g., gender and age), and faultlines

based on informational attributes, which are job-related and revolve

around knowledge (e.g., education and work experience; Bezrukova &

Uparna, 2009; Chung et al., 2015; Jehn et al., 2008; Jehn &

Rupert, 2008). Informational faultlines are driven by informational

processes and are most relevant for strategic decisions in which effec-

tive pooling of information and integration of alternative perspectives

is important (e.g., different directors have different pieces of informa-

tion that need to be integrated for optimal decision-making;

Bezrukova et al., 2009). On the other hand, social category faultlines

are explained by social categorization processes (Ashforth &

Mael, 1989; Hogg & Terry, 2000; Tajfel & Turner, 2004) and are most

relevant in common-goal groups that need to accomplish a specific

task (in our case, fire a CEO following the information available [i.-

e., poor performance]; Bezrukova et al., 2009). We will contribute to

this literature by theorizing and testing the effect of social category

faultlines on the capability of boards to dismiss a poorly

performing CEO.

Building on the social identity perspective, we provide a meaning-

ful extension of the work on faultlines in the strategic management lit-

erature and find economically and statistically significant evidence

that performance–CEO dismissal sensitivity is negatively influenced

by social category faultlines. Furthermore, this study explicitly

responds to recent calls to focus on moderators that can affect

faultline dynamics (cf. Van Peteghem et al., 2018; Veltrop

et al., 2015). We find that boards that do not engage in board evalua-

tion and boards with greater numbers of board committees suffer

more from the negative impact of social category faultlines. We use a

sample of Belgian listed firms across the time span of 2006–2014,

which provides us with a unique institutional context. Belgium applies

a one-tier Continental European corporate governance system and

can be classified as a French-civil law country (Cuervo, 2002; La Porta

et al., 1998). These national characteristics differ from the Anglo-

Saxon institutional contexts (e.g., the United Kingdom and the United

States) on which the CEO dismissal literature has typically focused

(e.g., Dah et al., 2014; Fiordelisi & Ricci, 2014; Van Peteghem

et al., 2018). While the Anglo-Saxon system is based on market con-

trol, the Continental European system is characterized by large-

shareholder control (Cuervo, 2002), and the vast majority of Belgian

VANDEBEEK ET AL.437