Are overconfident CEOs also more likely to be overly optimistic when issuing earnings forecasts? Does in-store marketing — including a product’s location and visibility on store shelves– make a difference? How does anxiety cripple efforts to negotiate a successful business deal? Wharton professors Holly Yang, Wesley Hutchinson and Eric Bradlow, and Maurice Schweitzer, respectively, examined these issues — and what they mean for business — in recent research papers.
For Earnings Forecasts, How Much Confidence Is Too Much?
Are CEOs who are described as “overconfident” more likely to voluntarily issue earnings forecasts, and are these forecasts more likely to be overly optimistic?
A research paper by Wharton accounting professor Holly Yang and University of Iowa professor Paul Hribar suggests that the answer is yes — a finding that has implications for analysts, investors, regulators and other users of financial reports. “A lot of research in accounting and finance looks at individual biases on the part of investors,” says Yang, whose paper is titled, “CEO Overconfidence and Management Forecasting.” “We were interested in looking at these biases on the part of managers.” She and Hribar based their research on a sample of 974 CEOs from 640 firms listed on the Fortune 500 between the years 2000 and 2007.
Their primary measure of overconfidence came from press characterizations of the CEO, including how many times the CEO used the word “confident” or “optimistic” to describe his or her company and its future; how many times these words were used in company press releases, and how many times journalists used these words in their articles as a way to describe the CEO.
The researchers then looked at whether there was a correlation between the most confident CEOs and their earnings forecasts. “We found that if a CEO is classified as overconfident, then his or her chance of missing the forecast is 10% higher than for a manager who is less confident,” according to Yang.
Existing research, she acknowledges, suggests that confidence is a trait top managers need in order to succeed. The difficulty comes when that confidence leads to unrealistic forecasts about a company’s future performance. “Overconfident CEOs are more likely to issue optimistically biased forecasts because they overestimate their ability to affect their financial results and/or they underestimate the probability of random events,” Yang and Hribar write. Random events can include such things as market crashes or natural disasters — events that will negatively affect the business but which the manager has no control over.
The researchers looked at three particular characteristics of guidance, which Yang defines as a forecast of earnings per share (EPS) for a certain fiscal period before the actual earnings are announced. “Guidance is a manager’s estimate of the company’s future performance,” she says.
The first characteristic is whether the CEO issues forecasts. While firms are not required to provide EPS forecasts to the public, an overconfident CEO is more likely to do so, Yang and Hribar found. The second characteristic is whether the CEO meets or misses the forecast. An overconfident CEO, according to the researchers, is more likely to miss the forecast. “While earnings guidance is helpful for investors and analysts who are trying to value the company, the market penalizes the company’s stock price when actual earnings fall short of expectations. If a CEO cites a certain number but then misses it, investors and analysts will begin to question the manager’s credibility and whether he or she really knows what is going on in the company and in the marketplace,” says Yang.
The third characteristic is the type of forecast issued. The researchers found that overconfident CEOs are more likely to issue a point forecast as opposed to a range forecast. “Instead of saying that EPS is going to be between $1 and $2, an overconfident CEO would say it will be $1.50,” Yang notes. While a point forecast is more specific, it is also easier to miss. If EPS turns out to be $1.20, then the manager is much better off having said it would be between $1 and $2 than forecasting it to be $1.50. “If an overconfident CEO issues a range forecast, then the forecast tends to have a tighter interval, again suggestive of his overconfidence in meeting those numbers,” she adds.
Several earlier studies show that overconfident managers are more likely to overinvest and more likely to engage in mergers and acquisitions, says Yang. “Our research looks at forecasting, which is more of an accounting topic because of EPS numbers given out to investors and analysts. If managers are overconfident and provide forecasts that are overly optimistic or have tighter ranges, it would be important for investors to know this when they value the company.” Sophisticated investors, she adds, “can probably identify which CEOs are more likely to be overconfident,” and compensate accordingly.
Yang and Hribar do not look at whether overly optimistic forecasts can, in the most egregious cases, be considered fraudulent actions. The Securities and Exchange Commission considers forecasts to be predictions of future performance, which means they are protected from liability by the Safe Harbor rule. “So companies cannot be sued for providing these optimistic outlooks,” says Yang, who agrees with this approach. “If managers could be held liable for their predictions, many of them would simply stop providing any forecasts at all.”
More research in this area is needed, Yang notes. Because earlier studies “show that the market discounts mergers undertaken by overconfident CEOs, future research into this topic could investigate whether investors or analysts take managerial overconfidence into consideration when determining a firm’s stock priced based on its forecasts,” the researchers write.
Yang also suggests that corporate boards be more vigilant in identifying which CEOS are overconfident. “Some degree of confidence is good, but not too much,” she notes. “Boards should be aware of CEO behavior when it crosses over from confidence to overconfidence, and tame that behavior before it becomes destructive.”
When Unseen Equals Unsold
Every year, retailers and manufacturers spend billions on the cacophony of ads and strategic product placements that confront consumers on every trip to the supermarket. But does in-store marketing directly boost sales, or are shoppers more influenced by outside factors, such as a positive past experience with a brand? In a paper titled, “Does In-Store Marketing Work? Effects of the Number and Position of Shelf Facings on Brand Attention and Evaluation at the Point of Purchase,” Wharton marketing professors Wesley Hutchinson and Eric Bradlow, INSEAD marketing professor Pierre Chandon, and Scott Young, vice president of consumer research firm Perception Research Services, used advanced eye-tracking methods to cleanly gauge the impact of in-store efforts.
The study focused on the impact of various in-store factors, such as the location and number of facings given to each brand in a shelf display. The researchers set out to separate these factors from out-of-store considerations, such as past habits, that might also play a role in a shopper’s decision to buy a particular product. They found that the number of facings a brand occupies on a shelf increases the likelihood that shoppers will buy it. Where on the shelf those items are stocked also matters, but those results were more mixed. “In-store marketing does work,” Bradlow notes. “Manufacturers are starting to recognize the power and opportunity of in-store marketing, and that’s going to shift marketing dollars to the retailer.”
The researchers used eye tracking technology to study the shopping preferences of 384 consumers in eight U.S. cities. Shoppers surveyed ranged from 24 to 69 years old, had at least a high school education and had annual incomes of $25,000 or more. They also were the main buyers of groceries in their households. Seated before a six-foot-wide screen projecting an image of a store shelf, participants were told to pick the brands they might buy if they were shopping. Beneath the screen, a camera recorded their eye movements using corneal reflective technology to see where their gaze lingered.
Participants were asked to state preferences for brands in two separate product categories — pain relievers and soap. Each product was used in 12 different display combinations. For example, one display might have more Dove soap and fewer boxes of Irish Spring, while another would have the opposite configuration. The total number of products on the shelf remained constant, but the placement of the brands varied. This type of experimental design is new in the commercial eye-tracking industry and provided much more statistical power than the standard method, the researchers note.
The goal was to test for a variety of scenarios concerning product placement and quantity. In addition, while some participants were asked to choose just one brand — simulating shoppers who come to a store to buy — others were asked to give the names of all of the brands they would consider purchasing — approximating customers who are just browsing. Finally, the sample shelves included two European brands not sold in the U.S. to eliminate bias due to past use.
According to the researchers, less popular brands got the biggest boost from an increase in shelf facings. They note that the best-loved brands — such as Coca-Cola — will be purchased no matter where they are found on a shelf because the products have a strong consumer following. But the majority of brands don’t have a passionate fan base; for example, most customers easily switch between several different brands of paper towels. The challenge facing marketers of these products is getting consumers to actually notice them. Simply increasing the number of shelf facings a low market share brand occupies from four to 12, the study found, made the product 60% more likely to end up in a consumer’s shopping bag. The boost for a highly popular brand was only 9%. The effects were generally most significant for “brands you occasionally use,” says Hutchinson. If shoppers had no interest in a product in the first place, “no amount of attention helps.”
According to the researchers, a consumer who already likes a brand due to out-of-store factors is less influenced by the attention-grabbing techniques of in-store marketing than someone who is more open to being persuaded. But the researchers argue that in-store marketing is still valuable because if a shopper doesn’t even see the product, there’s no chance of a sale. “The more visual attention [marketers] can gather in-store, the higher the percentage of people who will consider the product,” Young says. The study showed that in-store marketing reliably affects a shopper’s evaluation of a brand and that over time, these bits of attention contribute to consumers’ overall perception of a product — in effect, creating an out-of-store factor. “This picture is consistent with the ‘trench warfare’ metaphor often used for packaged goods sold in a supermarket,” the researchers write. “Large battles for attention are waged every day, but the battle lines of market share change very slowly.”
The results also suggest some ways that retailers could change their in-store strategies. When a product is selling badly, the typical solution is to remove that slow-moving item from the shelf. Because products with low market share got the biggest boost in the study when their shelf facings increased, it may make more sense to simply reposition the products in a particular display. “They are good products people would buy, but they’re just getting lost,” Young notes. “There are so many choices, people don’t even see them.”
Can a ‘Nervous Nelly’ (Successfully) Negotiate?
Anxiety erodes our confidence in all sorts of settings — asking someone on a date, interviewing for a job, making a big purchase. Figuring out how to deal with nervousness is a natural part of life. But anxiety can be especially crippling for people in the business world, short-circuiting their abilities to buy equipment, negotiate a better salary, win a labor dispute or settle the terms of a merger, according to new Wharton research.
In a recently published paper — “Can Nervous Nelly Negotiate? How Anxiety Causes Negotiators to Make Low First Offers, Exit Early, and Earn Less Profit,” in the journal Organizational Behavior and Human Decision Processes — professor of operations and information management Maurice Schweitzer and graduate student Alison Wood Brooks document the effects of anxiety on business negotiations, demonstrating that anxious participants end up worse off than confident ones. The implications for business leaders and executives, they say, are broad and deep.
“Anxiety is the most important emotion in negotiations,” notes Schweitzer. “Negotiations are contexts where people are often doing something a little bit unfamiliar, a little bit risky, where things might go badly wrong. There’s the prospect of confrontation; there’s the prospect of triggering somebody to become angry or losing a deal.”
Anxiety is a complex emotion that includes fear, frustration, stress, worry, tension, nervousness and apprehension. It’s important to understand anxiety in a business context, Schweitzer says, because it is ubiquitous yet under-reported: “We’re unlikely to tell people … ‘I’m feeling a little bit anxious, but I’m likely to calm down 20 minutes into the meeting.’”
Through a series of four studies, the two researchers found that anxiety harmed negotiators in several ways. Anxious negotiators made low initial offers, responded to offers more quickly and ultimately settled with worse outcomes. Anxious people are motivated to get out of a negotiation situation as quickly as possible, even if it means losing money. “Whereas feelings of anger motivate individuals to escalate conflict, feelings of anxiety motivate individuals to escape or avoid conflict,” the researchers write.
They used multiple methods to analyze and induce anxiety, including manipulating anxiety by way of music and video clips. “We used very different bargaining and negotiation contexts to try to triangulate this effect to really understand it,” Schweitzer notes. In the first study, they induced anxiety in a pool of 134 college students by making them listen to the “Psycho” theme music and then put them to work negotiating a cell phone shipment via a computer instant messaging program. Anxious participants earned less profit than non-anxious ones — who listened to Handel before negotiating — by making lower first offers and responding more quickly to offers.
A second study examined the specific link between anxiety and initial offers. Students assigned to the “anxious” condition watched a clip from the movie “Vertical Limit.” The pool of 159 students also negotiated over cell phones, but every participant was cast in the role of seller, negotiating against a computer with pre-programmed responses. Anxious participants, this study found, made significantly lower offers than those who were not anxious.
The third study looked at bargaining situations, using a version of the “shrinking pie game” in which 179 college student players had to divide a sum of money that shrinks by $.50 every second. In the study, the first player to quit stops the clock and establishes the size of the “pie,” but only claims 25%. Schweitzer and Brooks found that anxious negotiators gave up after about 19 seconds, compared to non-anxious players who exited after about 25 seconds, supporting the idea that anxiety causes players to quit early.
And the fourth study, involving 159 college students, also used the shrinking-pie game, but first gave participants false feedback on a “Negotiation Aptitude Test.” Half were told that their negotiation aptitude was average and half were told that their aptitude was far above average. Those who received the self-confidence boost were far less sensitive to the anxiety condition.
So what can negotiators do to fight anxiety and come out stronger in the end? Brooks suggests that nervous negotiators reframe their situation, noting that the physiological signs of anxiety are almost identical to the signs of excitement. “You can tell yourself, ‘I’m really excited, this is a great opportunity, and I’m going to do great,’ or you can frame it negatively, and say, ‘Oh, I’m so anxious, this is very threatening, I could really fail.’ Those two emotions are very similar except for the way that you appraise them.”
The research also notes that incentives could help negotiators fight the anxiety-induced desire to quit early. “Quite possibly, [with the enticement of an incentive] even anxious individuals may be persuaded to persist until they reach specific goals,” according to the paper.
In addition, the researchers are starting work on a project examining how anxiety can be contagious in a group setting. “There has been little work done on how anxiety spreads between people and in groups, and what expressions of anxiety will do to the other members of the group,” Brooks says. “I would hypothesize that the number of people in the group who feel anxious matters a lot, and potentially having one member of the group who is very calm, very confident … can make a huge difference.”