Practice Variation and Individual Agency: CEO Compensation and the Choice between Isomorphic visà- vis Nonisomorphic Strategies

Abstract

Although neoinstitutional theory has been increasingly used to explain a firm’s strategic choices, there is a paucity of research explaining firm heterogeneity in the adoption of strategies. Drawing on the behavioral agency model (BAM), this study argues that when managerial agents such as Chief Executive Officers (CEOs) are confronted with a tension between legitimacy risk – associated with non-conformance to institutional practices – and business risk, they will weigh the possibility of losses to their reputation and personal wealth associated with the downsides of both forms of risk. Thus, this study combines the arguments of neoinstitutional perspective arguing that managers will seek legitimacy through their choices on behalf of the firm and behavioral agency suggesting that managers are motivated by the need to limit losses of their reputation and personal wealth. The empirical framework is tested by examining 4,125 cross-border alliances and acquisitions that have been conducted by multinational corporations (MNCs) headquartered in the US in the period 1993-2010. Consistent with the theoretical framework put forward in this study, the results suggest that CEOs are less likely to reduce legitimacy risks by adopting cross-border acquisitions in response to institutional pressures when the CEO has higher levels of risk bearing, defined as wealth-at-risk of loss, in the form of stock options and cash compensation. These findings have important implications for neoinstitutional theory. In particular, the results of this study challenge the longstanding neoinstitutional assumption that firms – and their CEOs – are willing to select isomorphic strategies if reduction in firm legitimacy risk compensates for any increase in business risk. That prevailing logic implies that CEOs make strategic choices without regard to their personal risk preferences. Instead, this study has shown that the CEO is cognizant of the threat posed to their accumulated firm-specific wealth by these two dimensions of firm risk – i.e., legitimacy and business risk – and will therefore actively manage the tension between the two. Moreover, these findings also provide an alternative explanation for heterogeneity in firm strategies within organizational fields. Specifically, the results reported in this study suggest that the interplay between institutional pressures and the CEO’s risk bearing explains strategic choices and firm heterogeneity within organizational fields.