Houses of Glory, Mansions of Shame: CEOs’ Homes and Corporate Performance
In one of the more interesting and entertaining articles I have read in a long time, Crocker Liu of the Arizona State University Business School and David Yermack of N.Y.U. Business School take a look at what else the size and valuation of CEOs’ homes might tell us. In their March 2007 article entitled “Where Are The Shareholders’ Mansions? CEOs’ Home Purchases, Stock Sales, and Company Performance” (here), the authors' “central research question concerns the association between CEO real estate purchases and subsequent performance of their company.”
The authors developed their hypotheses by questioning whether a CEO’s home purchase more nearly indicates the CEO’s commitment to their company and its community, or rather represents the CEO’s “entrenchment,” particularly if the CEO is unconcerned about liquidating their assets (especially their holdings in company shares) and investing in an expensive home so as to provide “a public signal about the executive’s status and security.”
In order to determine which hypothesis is accurate, the authors undertook some rather creative detective work to identify the homes of the CEOs of the S & P 500 companies (including, among other things, each home’s location, size, valuation, date of acquisition, and method of financing). The authors ultimately were able to identify the homes of 488 of the CEOs, 164 of which the CEOs had acquired after taking office.
What the authors found out about the CEOs’ homes is fascinating. The median CEOs’ home is more than 5,600 square feet, and sits on over one and a quarter acres. The median 2006 market valuation of the CEOs’ homes is $2.7 million (although this may be understated because some of the homes are sufficiently unique that there are no ready market valuations). 12% of CEOs’ homes are on the waterfront, and 8.5% are on golf courses. The median distance from the office for CEOs’ homes is 12.5 miles, but 16 of the CEOs live more than 1,000 miles from their company headquarters and another 16 live between 250 and 1,000 miles from their office.
With respect to the question about the correlation between the CEO's home purchase and company performance, the authors found that when a CEO buys a home, “future company performance is inversely related to the CEO’s liquidation of company shares and options” to finance the transaction, even if the stock sales are small relative to the CEO’s holdings. The authors also found that “future performance deteriorates when CEOs acquire extremely large or costly mansions or estates,” regardless of the method of financing. The authors found a “significantly negative stock performance following the acquisition of very large homes by company CEOs,” a negative trend that persists for several years after the home purchase.
The authors’ assessment of this finding is that the CEO who purchases his or her home without selling shares is perhaps signaling their commitment to the company and expectation of future stock returns. The CEO who liquidates his or her shares to finance their home purchase , or buys a very expensive home, is signaling his or her perception of his or her status and security, and therefore the purchase represents a proxy for CEO “entrenchment.”
The authors contend that these facts suggest an investment strategy, essentially shorting the shares of companies whose CEOs who acquire very large and expensive homes, but maintaining long positions on the companies whose CEOs acquired their homes without selling company shares. According to the authors, both ends of this strategy would substantially outperform the companies taken as a whole.
I find the authors’ work intriguing, but I wonder whether the apparent link between the CEO’s home valuation and corporate performance might not be a manifestation of what a former colleague of mine poetically calls “multicollinearity.” That is, is the inverse correlation between CEO home valuation and corporate performance simply the quantification of another phenomenon – for example, the level of CEO compensation?
For the record, Buffett's home was not among the houses the authors studied, since Berkshire Hathaway inexplicably is not a part of the S & P 500. The authors' data set also does not include Bill Gates' $140 million, 66,000 square foot home, since he is no longer the CEO of Microsoft. Steve Ballmer's $8 million, 4,100 square foot home was included, however.
I am hoping that the authors' next article will compare the valuations of CEOs homes to those of the leading securities class action plaintiffs' lawyers. I suspect it would provide even more interesting analysis.
One of the Internet tools the authors used is the website, Zillow.com (here). If you have never visited the site, drop what you are doing immediately and go there. Just be prepared to spend the next few hours figuring out how much you neighbors', friends', and acquaintances' houses are valued for. Unless you really don't find things like that interesting at all. (Right...) Coincidentally, the April 4, 2007 Wall Street Journal reports (here, subscription required) that Zillow.com CEO Richard Barton is currently attempting to sell his Seattle home for $2.6 million (marked down from the intial asking price of of $3.475 million).
Special thanks to an alert reader (who prefers anonymity) for the link to the article.
Adults Only: When my oldest daughter was eight years old, she expressed an interest in reading The Hunchback of Notre Dame. (For reasons that no one who has actually read the book could possibly explain or understand, Disney had just released a childrens' cartoon movie based on the book.) I told her that I did not believe the book was appropriate for children. She of course asked why, and I told her that the book deals with "adult themes." She cocked her head at me and squinted her eyes and said, "You mean like real estate?"
Yes, like real estate. Exactly.