CEO Turnover and Accounting Earnings: The Role of Earnings Persistence

Although earnings persistence should have a nontrivial impact on chief executive officer (CEO) turnover decisions, prior studies have paid little attention to the role of earnings persistence in CEO turnover decisions. This study examines the effect of earnings persistence on the sensitivity (i.e., the negative relation) of CEO turnover to earnings performance. First, we find that the sensitivity of forced CEO turnovers to earnings performance is greater when earnings are more persistent. We also show that among numerous earnings attributes, earnings persistence is the most direct and dominant attribute in explaining CEO turnover-earnings sensitivity. Further, when the effect of earnings persistence on CEO compensation-earnings sensitivity is weak, the effect of earnings persistence on CEO turnover-earnings sensitivity is stronger, suggesting that the executive discipline system substitutes for the compensation system when earnings persistence is neglected by compensation policies. Overall, our findings suggest that earnings persistence plays a crucial role in CEO turnover decisions by elevating the board’s knowledge on the future performance implications of current earnings. Finally, the role of persistence is even more crucial when it is neglected by executive compensation policies.

This paper was accepted by Shiva Rajgopal, accounting.