When recruiting top executives, rejecting candidates with criminal records seems like a sensible decision. But it's also wise to steer clear of Lamborghini and yacht owners. A 2012 study suggests that executives who spend lavishly in their personal lives are less likely to run their companies as tight financial ships.
Robert Davidson of Georgetown University's McDonough School of Business was intrigued by the concept of "personal frugality," which he describes as "having a longer-term focus and more emphasis on controls and monitoring." After studying the psychology and sociology literature, "We thought that might translate to a corporate setting, where a frugal CEO might have stronger systems and controls and better monitoring in place," he tells Build.
Davidson collaborated with Aiyesha Dey of the University of Minnesota's Carlson School of Management and Abbie Smith of the University of Chicago's Booth School on a paper titled "Executives' Off-the-Job Behavior, Corporate Culture, and Financial Reporting Risk." The authors examined thousands of litigation reports from the SEC and also information from databases listing firms that have had to restate financials. To research CEO assets, they worked though a licensed private investigative service that checked real estate, insurance, and registration records.
Their conclusion: Firms led by "unfrugal" CEOs were more likely to experience unintentional accounting errors and also fraud--not by the CEOs themselves--but by people working for them. "They ran firms where there were weaker deterrents to doing it," Davidson says.
The cultures overseen by frugal CEOs are "characterized by relatively strong discipline and rigorous controls," the paper reports. Wasteful CEOs, by contrast, are likely to lead less-disciplined cultures. Over the tenure of such leaders, companies' control environments tend to deteriorate.
"If you're interviewing a few candidates and getting to know them on a personal level clearly, you would be able to get a far more nuanced sense of who they are and the lifestyle they lead," says Davidson, who points out that companies will also naturally conduct credit checks on candidates as well. "You shouldn't ignore this information when making decisions. It has reasonably strong predictive power."