This paper interfaces with two controversies in the literature: how to reign in powerful CEOs, and whether and when shareholders gain governance mandates, such as those in the Sarbanes-Oxley Act (SOX) of 2002 and NYSE/NASDAQ listing rules.

We use the concurrent passage of the Sarbanes-Oxley Act (SOX) of 2002 and NYSE/NASDAQ listing rule changes as an exogenous shock to internal firm governance to explore the impact of powerful CEOs on corporate policies. We use the heterogeneity in firms’ pre-SOX governance to explore how improved governance can reign in powerful CEOs.

For firms with weaker pre-SOX corporate governance (Non-Compliant Firms) and powerful CEOs, we find that the quasi-exogenous regulatory shock to governance initiated a strategic shift in resource allocation. In the post-SOX period, the pre-SOX Non-Compliant Firms with powerful CEOs reduced asset growth and acquisition expenditure, and improved acquisition performance. On the other hand, they increased R&D expenditure, and produced more patents, with more citations, that had a higher valuation. They also paid out more cash to shareholders in the form of dividends.

This suggests that governance improvements help to re-align powerful CEOs’ interests with those of shareholders.

By: Mark Humphery-Jenner (UNSW Business School; Financial Research Network (FIRN)), Emdad Islam (UNSW Business School, UNSW Australia), Lubna Rahman (UNSW Business School), and Jo-Ann Suchard (UNSW Australia Business School, School of Banking and Finance; Financial Research Network (FIRN))

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