Do top Indian companies hire professional Chief Executive Officers on the basis of caste or religion? And does it matter for financial performance? Professors Naga Lakshmi Damaraju and her co-author Anil K Makhija offer some surprising insights on these important questions.
Whether Chief Executive Officer (CEO) appointments at the largest corporations are driven by the biases of firm owners is an important subject for corporate governance. In a country like India, where the multitude of religions, castes, and communities can become reasons for biased decisions, the subject assumes special importance. The caste system in India is deeply ingrained in society. Despite various government policies to promote equality, caste/religion-based discrimination seems to not disappear and has been a source of massive social and economic inequity.
Against this backdrop, it is interesting to understand whether top firms in India, a majority of which are family firms, are influenced by same caste/religion considerations when they select professional CEOs, who do not belong to the family. The presence of bias towards same caste/religion CEO candidates by itself is not problematic. Same caste/religion could provide information about common/shared mindsets, world views, and value systems and can lead to enhanced trust between firm owners and the appointed CEOs. When this happens, communication, information and resource flows may be smoother. All these can enhance efficiency in decision making. Consequently, firms with same caste/religion CEOs may experience better performance outcomes compared to those that do not have the same caste/religion CEOs.
In fact, Luigi Guiso, Paola Sapienza of the Kellogg School of Management and Luigi Zingales of the University of Chicago in their 2009 paper provided evidence that cultural similarity, be it religious, genetic or somatic, can improve bilateral trust, leading to more trade. Similarly, Deepak Hegde of New York University’s Stern School of Business and Justin Tumlinson in their 2014 study show positive performance effects for start-ups when venture capitalists and the start-ups they invest in are close in ethnicity.
However, the presence of bias towards CEO candidates from the same caste or religion could also be problematic. This happens when individuals from the same caste or religion are preferred for the coveted CEO positions primarily because the firms’ owners prefer to work with people from the same caste or religion and there are no other really valuable reasons to do so. Such biased appointments could result in adverse performance outcomes for firms with the same caste/religion CEOs compared to those firms that do not.
Naga Lakshmi Damaraju, Assistant Professor of Strategic Management at the Indian School of Business, and Anil Kumar Makhija, Professor of Finance and Dean of the Fisher College of Business at the Ohio State University, studied these issues in the Indian context.
Top Indian Firms
The study used a sample of the largest 1,000 listed firms by market capitalization from the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE) over the period, 2001–2009. The hiring decisions at these firms should have the greatest impact on the Indian economy. The study focuses on new CEO appointments by private sector firms during this time period. Public sector appointments are likely to be driven by different considerations and therefore are not included in the study.
The exercise involved identifying family-owned firms, CEO turnover events, and the castes/ religion of both the firm and the CEO candidates. Since caste or religion are not directly identifiable, the researchers used the family names of individuals to assign caste and religion through a detailed matching process. The pool of rival candidates for comparison included the “insider” candidates, of the firm, i.e., internal directors and key executives of the firm, and also “outsider” candidates, i.e., internal directors, key executives, and CEOs of the rival firms from the industry category of the focal firms. Sophisticated statistical matching techniques were used in building the comparison pool to ensure that the candidates are comparable on important attributes, except caste and religion. The dataset thus constructed was very unique.
Do caste and religion matter for professional CEO appointments?
The analyses, at first glance, suggest that there is a bias in CEO selection, since a large proportion of CEO hires appear to be from same caste and/or religion as the firm owners. This proportion appears to be way over the expectation based on the proportion of the castes and religions in the population of available pool of candidates and nation-wide. The authors then used detailed statistical analyses to decipher whether this bias is driven by good reasons of information or just a preference for candidates from the same caste/religion group.
The ‘insider’ and ‘outsider’ candidate subsets provide a key to understanding the likely source of bias. The underlying logic was that if information considerations drive the preferences of CEO candidates, then caste/religion should be of lesser relevance in the case of insider candidates than in the case of outsider candidates, since information regarding insider candidates is likely to be already known to the firm.
The results of the analyses indeed establish that caste/religion are less important in the case of insider candidates compared to outsider candidates. Moreover, these results hold across a wide variety of caste/religion sub-samples.
There are also interesting results regarding preferences of ‘Indian family’ and ‘Indian Hindu family’ firms, which form the large majority of the sample. In these sub-samples, there is no evidence for an overall bias in favour of same caste/religion CEO candidates. Further, results suggest that in these firms, insiders from the same caste/religion are less likely to be chosen compared to outsiders from same caste/religion. Why would insiders from the same caste/religion face discrimination relative to outsiders from the same caste/religion?
The following explanation may help reconcile these results. For these sub-samples of firms, since a majority of insiders, whether directors or key executives are likely to be from family circles and friends and hence likely to be from same caste/religion, firms may prefer to appoint those who are not from same caste/religion when choosing professional CEO candidates. Such choices could be critical to managing the morale of insiders, who are not from same caste/religion, nor from within family or friends circles. It would reassure them that they would have fair opportunity to be recruited for the highest position without being discriminated against.
Nevertheless, for the non-family firm sub-samples, results support a bias in favour of the same caste or religion insiders. This evidence does not, however, conclusively establish that the bias is due to preference for working with same caste/religion CEO candidates.
Same caste/religion hiring and firm performance
Analyses of firm performance implications also do not reveal any adverse effects of same caste/religion CEO hires. This result holds for all caste/religion sub-samples. The measure of firm performance used is an accounting measure, i.e., the return-on assets (ROA) of the year following the CEO change. This return-on-assets measure was calculated as Earnings before interest, taxes, depreciation, and amortization (EBITDA) over total assets of the firm. This ROA measure of firm value was used instead of using market valuation based measures since markets might adjust valuations based on same caste/religion CEO hiring information. ROA is less likely to adjust itself based on whether the CEO is chosen from the same caste/religion.
The results suggest that the CEO being an insider candidate also does not impact firm performance. These results are consistent since if outsider candidates are hired as CEOs based on same caste/religion considerations, then caste/religion is likely to provide information about their attributes and firms could be hiring better CEO candidates. Therefore, firm performance is not likely to be adversely affected in case of ‘outsider’ hires. In the case of insiders, since there is already likely to be information about them, again, performance is unlikely to be adversely affected.
To summarise, the study supports information-related causes for same caste/religion bias in hiring professional CEOs among the largest firms in India. There is no evidence from the study to support the hypothesis that firms make professional CEO appointments just because they prefer candidates from same caste/religion.
About the Researcher:
Naga Lakshmi Damaraju is an Assistant Professor in the Strategy area at the Indian School of Business.
Anil K. Makhija is Dean and John W Berry, Sr Chair in Business of The Ohio State University Fisher College of Business.
About the Research:
Damaraju, N L and Makhija, A K, 2018. The role of social proximity in professional CEO appointments: Evidence from Caste/Religion‐Based Hiring of CEOs in India. Strategic Management Journal (Published online 5 March 2018).