Escalation of commitment and CEO departures: theory and evidence
Abstract
The escalation of commitment process involves a decision-maker continuing commitment to an investment after receiving negative information. This study develops a principal-agent model to explore how escalation decisions are linked with departures of CEOs from the position. With asymmetric information, a CEO has an incentive to conceal prior decision errors by escalating commitment to failing investments and leaving the firm before the outcome of investment decisions is disclosed publicly. Results of empirical analysis based on a sample of over 3,000 US firms are consistent with the theory and demonstrate that firms’ reporting of low financial performance relative to their industry as well as initiation of new discontinued operations are preceded, and not followed, by unplanned CEO departures.
Keyword : escalation of commitment, discontinued operations, asymmetric information, principal-agent model, CEO turnover, labor economics
How to Cite
Chulkov, D. V., & Barron, J. M. (2021). Escalation of commitment and CEO departures: theory and evidence. Journal of Business Economics and Management, 22(6), 1416-1435. https://doi.org/10.3846/jbem.2021.15532
This work is licensed under a Creative Commons Attribution 4.0 International License.
References
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Lippman, S., & McCall, J. (1981). The economics of belated information. Interna-tional Economic Review, 22(1), 135–146. https://doi.org/10.2307/2526141
Montecinos‐Pearce, A., Rodrigo, P., & Duran, I. (2020). When is escalation of commitment unstoppable in group settings? An iterative economic modeling approach to unveil the dark side of group decision‐making. Managerial and Decision Economics, 41(8), 1387–1402. https://doi.org/10.1002/mde.3190
Murphy, K., & Zimmerman, J. (1993). Financial performance surrounding CEO turnover. Journal of Accounting and Economics, 16(1–3), 273–315. https://doi.org/10.1016/0165-4101(93)90014-7
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Ross, J., & Staw, B. (1993). Organizational escalation and exit: Lessons from the Shoreham Nuclear Power Plant. Academy of Management Journal, 36(4), 701–732.
Schulz-Hardt, S., Thurow-Kröning, B., & Frey, D. (2009). Preference-based escalation: A new interpretation for the responsibility effect in escalating commitment and entrapment. Organizational Behavior and Human Decision Processes, 108(2), 175–186. https://doi.org/10.1016/j.obhdp.2008.11.001
Schultze, T., & Schulz-Hardt, S. (2021). Does change of responsibility reduce escalating commitment? A replication and theoretical extension. Journal of Experimental Psychology: Applied. Advance online publication. https://doi.org/10.1037/xap0000366
Shen, W., & Cannella, A. (2002). Revisiting the performance consequences of CEO succession: The impacts of successor type, post-succession senior executive turnover, and departing CEO tenure. Academy of Management Journal, 45(4), 717–733. https://doi.org/10.5465/3069306
Simonson, I., & Staw, B. (1992). De-escalation strategies: A comparison of techniques for reducing commitment to losing courses of action. Journal of Applied Psychology, 77(4), 419–426. https://doi.org/10.1037/0021-9010.77.4.419
Sleesman, D., Conlon, D., McNamara, G., & Miles, J. (2012). Cleaning up the big muddy: A meta-analytic review of the determinants of escalation of commitment. Academy of Management Journal, 55(3), 541–562. https://doi.org/10.5465/amj.2010.0696
Statman, M., & Sepe, J. (1989). Project termination announcements and the market value of the firm. Financial Management, 18(4), 74–81. https://people.bath.ac.uk/mnsrf/Teaching%202011/statman%20sepe.pdf
Staw, B. (1976). Knee-deep in the big muddy: A study of escalating commitment to a chosen course of action. Organizational Behavior and Human Performance, 16(1), 27–44. https://doi.org/10.1016/0030-5073(76)90005-2
Staw, B. (1997). The escalation of commitment: An update and appraisal. In Z. Shapira (Ed.), Organisational decision making (pp. 191–215). Cambridge University Press. https://psycnet.apa.org/record/1997-97037-006
Staw, B., Barsade, S., & Koput, K. (1997). Escalation at the credit window: A longitudinal study of bank executives’ recognition and write-off of problem loans. Journal of Applied Psychology, 82(1), 130–142. https://doi.org/10.1037/0021-9010.82.1.130
Staw, B., & Ross, J. (1987). Behavior in escalation situations: antecedents, prototypes, and solutions. In B. Staw & L. Cummings (Eds.), Research in organizational behavior (Vol. 9, pp. 39–78). JAI Press.
Barron, J., Chulkov, D., & Waddell, G. (2011). Top management team turnover, CEO succession type, and strategic change. Journal of Business Research, 64(8), 904–910. https://doi.org/10.1016/j.jbusres.2010.09.004
Barua, A., Lin, S., & Sbaraglia, A. (2010) Earnings management using discontinued operations. The Accounting Review, 85(5), 1485–1509. https://doi.org/10.2308/accr.2010.85.5.1485
Bazerman, M., Giuliano, T., & Appelman, A. (1984). Escalation of commitment in individual and group decision making. Organizational Behavior and Human Performance, 33(2), 141–152. https://doi.org/10.1016/0030-5073(84)90017-5
Berg, J., Dickhaut, J., & Kanodia, C. (2009). The role of information asymmetry in escalation phenomena. Journal of Economic Behavior and Organization, 69(2), 135–147. https://doi.org/10.1016/j.jebo.2007.07.007
Brockner, J. (1992). The escalation of commitment to a failing course of action: toward theoretical progress. Academy of Management Review, 17(1), 39–61. https://doi.org/10.5465/amr.1992.4279568
Brody, R., & Frank, K. (2002). Influence of prior involvement on employees’ ratings. Psychological Reports, 90(1), 139–149. https://doi.org/10.2466/pr0.2002.90.1.139
Chamberlain, G. (1980). Analysis of covariance with qualitative data. Review of Economic Studies, 47(1), 225–238. https://doi.org/10.2307/2297110
Chen, G., & Hambrick, D. (2012). CEO replacement in turnaround situations: Executive (mis) fit and its performance implications. Organization Science, 23(1), 225–243. https://doi.org/10.1287/orsc.1100.0629
Chulkov, D., & Barron, J. (2019). Turnover in top management and de-escalation of commitment. Applied Economics, 51(23), 2534–2551. https://doi.org/10.1080/00036846.2018.1546955
Finkelstein, S., Hambrick, D., & Cannella, A. (2009). Strategic leadership: Theory and research on executives, top management teams, and boards. Oxford University Press. https://doi.org/10.1093/acprof:oso/9780195162073.003.0005
Gao, H., Harford, J., & Li, K. (2017). CEO turnover–performance sensitivity in private firms. Journal of Financial and Quantitative Analysis, 52(2), 583–611. https://doi.org/10.1017/S0022109017000126
Hermalin, B., & Weisbach, M. (2012). Information disclosure and corporate governance. The Journal of Finance, 67(1), 195–233. https://doi.org/10.1111/j.1540-6261.2011.01710.x
Huang, T., Souitaris, V., & Barsade, S. (2019). Which matters more? Group fear versus hope in entrepreneurial escalation of commitment. Strategic Management Journal, 40(11), 1852–1881. https://doi.org/10.1002/smj.3051
Jenter, D., & Kanaan, F. (2015). CEO turnover and relative performance evaluation. The Journal of Finance, 70(5), 2155–2184. https://doi.org/10.1111/jofi.12282
Jiang, H., Cannella, A., Xia, J., & Semadeni, M. (2017). Choose to fight or choose to flee? A network embeddedness perspective of executive ship jumping in declining firms. Strategic Management Journal, 38(10), 2061–2079. https://doi.org/10.1002/smj.2637
Kalmanovich-Cohen, H., Pearsall, M., & Christian, J. (2018). The effects of leadership change on team escalation of commitment. The Leadership Quarterly, 29(5), 597–608. https://doi.org/10.1016/j.leaqua.2018.03.004
Kanodia, C., Bushman, R., & Dickhaut, J. (1989). Escalation errors and the sunk cost effect. Journal of Accounting Research, 27(1), 59–77. https://doi.org/10.2307/2491207
Kaplan, S., Kenchington, D., & Wenzel, B. (2020). The valuation of discontinued operations and its effect on classification shifting. The Accounting Review, 95(4), 291–311. https://doi.org/10.2308/tar-2016-0235
Keil, M., & Robey, D. (1999). Turning around troubled software projects: An exploratory study of the de-escalation of commitment to failing courses of action. Journal of Management Information Systems, 15(4), 63–87. https://doi.org/10.1080/07421222.1999.11518222
Lee, J., Keil, M., & Wong, K. (2021). When a growth mindset can backfire and cause escalation of commitment to troubled information technology project. Information Systems Journal, 31(1), 7–32. https://doi.org/10.1111/isj.12287
Lippman, S., & McCall, J. (1981). The economics of belated information. Interna-tional Economic Review, 22(1), 135–146. https://doi.org/10.2307/2526141
Montecinos‐Pearce, A., Rodrigo, P., & Duran, I. (2020). When is escalation of commitment unstoppable in group settings? An iterative economic modeling approach to unveil the dark side of group decision‐making. Managerial and Decision Economics, 41(8), 1387–1402. https://doi.org/10.1002/mde.3190
Murphy, K., & Zimmerman, J. (1993). Financial performance surrounding CEO turnover. Journal of Accounting and Economics, 16(1–3), 273–315. https://doi.org/10.1016/0165-4101(93)90014-7
Ohlert, C., & Weißenberger, B. (2020). Debiasing escalation of commitment: The effectiveness of decision aids to enhance de-escalation. Journal of Management Control, 30(4), 405–438. https://doi.org/10.1007/s00187-019-00290-z
Parrino, R. (1997). CEO turnover and outside succession a cross-sectional analysis. Journal of Financial Economics, 46(2), 165–197. https://doi.org/10.1016/S0304-405X(97)00028-7
Ross, J., & Staw, B. (1993). Organizational escalation and exit: Lessons from the Shoreham Nuclear Power Plant. Academy of Management Journal, 36(4), 701–732.
Schulz-Hardt, S., Thurow-Kröning, B., & Frey, D. (2009). Preference-based escalation: A new interpretation for the responsibility effect in escalating commitment and entrapment. Organizational Behavior and Human Decision Processes, 108(2), 175–186. https://doi.org/10.1016/j.obhdp.2008.11.001
Schultze, T., & Schulz-Hardt, S. (2021). Does change of responsibility reduce escalating commitment? A replication and theoretical extension. Journal of Experimental Psychology: Applied. Advance online publication. https://doi.org/10.1037/xap0000366
Shen, W., & Cannella, A. (2002). Revisiting the performance consequences of CEO succession: The impacts of successor type, post-succession senior executive turnover, and departing CEO tenure. Academy of Management Journal, 45(4), 717–733. https://doi.org/10.5465/3069306
Simonson, I., & Staw, B. (1992). De-escalation strategies: A comparison of techniques for reducing commitment to losing courses of action. Journal of Applied Psychology, 77(4), 419–426. https://doi.org/10.1037/0021-9010.77.4.419
Sleesman, D., Conlon, D., McNamara, G., & Miles, J. (2012). Cleaning up the big muddy: A meta-analytic review of the determinants of escalation of commitment. Academy of Management Journal, 55(3), 541–562. https://doi.org/10.5465/amj.2010.0696
Statman, M., & Sepe, J. (1989). Project termination announcements and the market value of the firm. Financial Management, 18(4), 74–81. https://people.bath.ac.uk/mnsrf/Teaching%202011/statman%20sepe.pdf
Staw, B. (1976). Knee-deep in the big muddy: A study of escalating commitment to a chosen course of action. Organizational Behavior and Human Performance, 16(1), 27–44. https://doi.org/10.1016/0030-5073(76)90005-2
Staw, B. (1997). The escalation of commitment: An update and appraisal. In Z. Shapira (Ed.), Organisational decision making (pp. 191–215). Cambridge University Press. https://psycnet.apa.org/record/1997-97037-006
Staw, B., Barsade, S., & Koput, K. (1997). Escalation at the credit window: A longitudinal study of bank executives’ recognition and write-off of problem loans. Journal of Applied Psychology, 82(1), 130–142. https://doi.org/10.1037/0021-9010.82.1.130
Staw, B., & Ross, J. (1987). Behavior in escalation situations: antecedents, prototypes, and solutions. In B. Staw & L. Cummings (Eds.), Research in organizational behavior (Vol. 9, pp. 39–78). JAI Press.