January 06, 2009

WHEN THE CEO IS ILL: KEEPING QUIET OR GOING PUBLIC?

Research by Dr. Alexa A. Perryman

The Securities and Exchange Commission (SEC) "should directly classify the health of a firm's CEO as a material fact requiring disclosure."

So says Alexa A. Perryman, assistant professor of management in the Neeley School of Business at TCU.  Dr. Perryman is lead author on a paper, "When the CEO is Ill: Keeping Quiet or Going Public?" which has been accepted for publication in a forthcoming issue of the journal Business Horizons .

"The SEC lacks specific guidelines regarding executive health disclosures," says Dr. Perryman.  "This leaves companies to decide what does and does not constitute material information."

An example of this situation is the announcement January 14 by Apple that CEO Steve Jobs is taking a medical leave of absence through June 2009 due to health problems "more complex than previously thought."

Perryman, and co-authors Frank C. Butler and Gerald Ferris of Florida State University and John A. Martin of the U.S. Air Force Academy, note that the SEC requires companies to disclose events and conditions with the potential to impact the firm's future or its value in the market.  These include financial risk from climate change, executive officer compensation, and trends and uncertainties affecting liquidity and capital resources.

Perryman and her co-authors argue that a ruling in a U.S. Supreme Court case, TSC Industries v. Northway , paves the way for the SEC to include CEO health as "material information."  In that case the Court ruled that "an omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote." 

"This suggests," says Perryman, "that if a serious health condition could influence the decision of a vote, then it should be viewed as relevant, material information that should be made public to shareholders."

There is research showing that the death of a CEO often leads to "negative market reactions."  The evidence for the same phenomenon related to CEO illness, though, is largely anecdotal.   News accounts have noted changes in stock prices due to rumors of CEO illness.   An earlier incident involving Apple, for example, saw the firm's value drop by $16 billion over rumors about Steve Jobs facing another battle with cancer. 

In a newspaper search covering the years 2000 to 2008, the researchers found several instances when CEOs and companies chose the path of disclosure.  However, they found that "CEO health typically is not disclosed until the condition has reached a critical stage."   

The paper's authors contend that CEOs' medical rights to privacy must be balanced with a responsibility to investors and employees.  They argue for public disclosure if and when:

  •   There is an illness or condition that immediately endangers the life of the CEO;
  •   An illness or condition requires a lengthy absence;
  •   A condition has the potential to shorten the lifespan of the CEO, or impacts the CEO's ability to
      reliably perform his or her job.

"We suggest that the SEC should directly classify the health of the CEO as a material fact requiring disclosure," says Perryman.  "The threshold for disclosure would be any illness that results in the CEO being unable to work for an extended period of time or any illness that has the possibility of shortening the lifespan of the CEO." 

They also advocate that CEOs get annual health screenings.

"We recommend a proactive stance on CEO health as a means to encourage vigilance in corporate transparency, succession planning, and a focus on shareholders' rights."