As the highest-ranking officer of a company, a chief executive officer (CEO) is in charge of setting the direction and implementing strategies to achieve his or her overall vision for a company. The CEO also is often one of the most visible parts of a company and some have even achieved “rock star” status in the press. Finding the right CEO is obviously important for any business. But beyond anecdotal evidence on what CEOs do and how they affect a company’s fortunes, there are few studies that analyse which qualities make a good CEO.

Most theoretical studies either assume that all CEOs are equal or differentiate them according to talent, but do not say what those skills exactly are. Empirical work in economics and finance is just beginning to consider which particular CEO abilities are important, while management literature has mostly focused on observable characteristics such as education, test scores, functional background, and age. The problem with looking at easily observable factors is that these are at best proxies for underlying qualities for which data would be difficult to gather. It is impossible to do a study like this unless you can get 300 people to sit down and tell you their entire life story.

But a recent study undertaken by me and Mark M. Klebanov, PhD '08, with Ziff Brothers Investments, and Morten Sorensen of Columbia Business School comes close. It systematically and extensively analyses which CEO characteristics and abilities matter for hiring decisions and the subsequent performance of companies funded by private equity firms. We use detailed evaluations of 316 CEO candidates, which are based on four-hour structured interviews from 2000 to 2006. The data, compiled by management assessment firm ghSMART, are used by private equity investors when deciding whether to invest in a company and when choosing a new CEO. Each assessment includes quantitative and qualitative information about a candidate’s personal history and assessments on various skills and attributes.

The study shows that it is possible to measure individual CEO characteristics and abilities beyond the usual observable factors, and that crucial decisions made by private equity firms and the eventual success of their companies hinge on certain skills and attributes that top bosses possess.

Finding the Relevant Factors

Two of the most common investment strategies used by private equity firms are providing venture capital (VC) for a young business with high growth potential, and buying a controlling stake in a company financed through leverage or what is known as a leveraged buyout (LBO). The CEO skills that private equity firms look for and that are essential for success may differ according to the type of investment.

CEOs who are currently employed by a company may have different qualities from outside candidates who are being considered for the top post. Indeed, one of the observations from the data is that outside candidates, especially for LBOs, score higher than insiders on most of the 30 characteristics assessed by ghSMART. This is consistent with a number of explanations. First, private equity firms hire outsiders when internal candidates are not performing well. Second, it is an important function of these firms to upgrade managerial talent in the companies in which they invest. Third, the incumbent manager may have control of the company so that the private equity firm must keep the current management, even if he or she is not the best candidate. Finally, concerns about employee morale and other internal conflicts may prompt investors to keep the incumbent management.

Another observation is that a candidate who scores well on one characteristic tends to score well on others. This strong correlation suggests that talent, ability, or skill have some kind of general quality that encompasses many dimensions. However, when trying to find out which specific attributes really matter, it would be difficult to interpret the results of an analysis that includes all these related characteristics. To address this problem, we perform a “factor analysis” to extract the factors to which the most important characteristics are related. We find two strong factors in the data, both of which have intuitive interpretations.

The first factor captures general talent or ability. The second factor is one that contrasts interpersonal and team-related skills against execution-related skills. Candidates who score high on the second factor have high ratings on such qualities as treating people with respect, being open to criticism, being a good listener, and valuing teamwork. On the other hand, candidates who do well on such characteristics as being proactive, efficient, persistent, and moving fast will tend to score lower on this second factor. For instance, former General Electric CEO Jack Welch, who was often referred to as “Neutron Jack,” would probably get a negative score, while his successor Jeffrey Immelt, who was famous for holding "dreaming sessions” with customers and developing “imagination breakthrough” teams, would probably get a positive score. We also create two alternative factors that come from breaking up the second factor into two distinct variables: one that describes interpersonal and team-related skills, and another that represents execution-related skills.