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The paper investigates whether outsiders are handicapped in CEO successions.
Firms can choose between an inside successor (promoting an existing executive) or an outsider (hiring someone new).
Most firms choose insiders.
From 1974-1995, over 80% of CEO successions in large U.S. firms involved promoting an insider.
The research explores why insiders are favored, considering the possibility that firms handicap outsiders to incentivize inside candidates.

Firms may handicap outsiders, requiring them to be markedly better than insiders to be chosen as CEO.
The rationale is to provide an incentive for insiders to work hard.
Selecting a CEO is viewed as a contest or tournament among executives.
Aspiring executives work hard to become CEO because the CEO job is desirable.
Firms benefit from the hard work of their executives.
The strength of this incentive depends on the link between hard work and the likelihood of becoming CEO.
Handicapping outsiders strengthens this link.

A firm where insiders are more comparable will handicap outsiders more and choose insiders as CEO.
A firm with insiders more comparable to outsiders will handicap outsiders less and be less likely to choose an insider as CEO.
A firm with more insiders competing will handicap outsiders more and choose an insider as CEO.

The study uses a dataset with over 1,000 observations on CEO successions in U.S. firms from 1974 to 1995.
A novel variable describing firm organization measures the comparability of insiders.
An indicator of industry homogeneity measures the comparability of insiders to outsiders.
The number of executives within a firm is used as a measure.
Control variables include firm performance, size, board composition, and the presence of a founding family CEO.

OUTSIDER: Binary variable, 1 if the new CEO is hired from outside the firm, 0 if an insider is promoted.
PL (Organizational Structure): Binary variable, 1 if the firm has a product or line of business organizational structure, 0 otherwise.
HOMOGENEITY: Parrino’s (1997) measure of industry homogeneity.
SEMP: Number of supervisory employees at the firm.
SEMPIND: Number of supervisory employees for other firms in the same industry.
OPS (Operating Performance to Sales): Average of the ratio of operating income before depreciation to net sales for the firm during the year of succession and the prior year.
FORCE: Binary variable, 1 if the departing CEO was forced to leave, 0 otherwise.
ASSET: Firm size as measured by the dollar value of assets.
FFAMILY: Binary variable, 1 if the current CEO is a member of the founding family, 0 otherwise.
OBOARD: Proportion of non-employee members of the Board of Directors.

Firms with a PL organizational structure are more likely to select an insider to succeed as CEO.
As HOMOGENEITY increases, firms will be less likely to promote internal candidates to the CEO position.
Firms with more supervisory employees should be more likely to choose internal candidates to succeed to the CEO position.

Firms with a product or line of business organizational structure are less likely to hire an outsider as CEO.
Firms in industries that are more homogeneous are more likely to appoint an outsider as CEO.
Firms with more internal contestants are less likely to appoint an outsider as CEO.
Poor firm performance increases the likelihood of an outside CEO appointment.
Larger firms are somewhat less likely to select an outsider CEO.
When a founding family member is replaced as CEO, the likelihood of selecting an outsider is greater.
Firms where the proportion of outside directors is larger are more likely to select an outsider as CEO.

Firms that switch to a product or line of business structure are more likely to pick an insider as CEO than similar firms that maintain a functional structure.
Firms that switch away from a product or line of business structure will be more Likely to pick outsiders

It's possible that insiders at firms with a product or line of business organizational structure might be more likely to succeed to the CEO position not because outsiders are handicapped but because these particular insiders are more able.
The test controlled for the amount of overall business experience among top executives in a sub-sample of our successions and finds that, even with this control, firms with a product or line of business organizational structure are more likely to select an insider as CEO

Outsiders selected to be CEO must have overcome a handicap, so they will typically be more able than insiders promoted to CEO.
Outsiders should be paid more than insiders when appointed CEO.

Outsiders are handicapped (chosen as CEO only if markedly better than the best insider) so that the contest to become CEO will provide stronger incentives for inside candidates to work hard.
The size of the handicap imposed on outsiders, and so the likelihood that an insider is chosen CEO, should be greater where inside candidates are more comparable, where outside candidates are less comparable to insiders, and where there are more inside candidates.
The evidence consistently supports these predictions.

The expected reward to an executive for exerting greater effort is the induced change in his probability of winning the competition to become CEO, $p$ , times the prize $W$ or $(\frac{Bp}{BA})W$ .
Performance of a candidate: $q = A + q$ , where $A$ is the deterministic component dependent on ability and effort, and $q$ is a random component with zero mean.
The division between $c$ and $i$ depends on the make-up of the group of other candidates. The more similar are the circumstances faced by all candidates, the greater will be the common portion and the smaller will be the idiosyncratic portion.
$OUTSIDER = f(PL, HOMOGENEITY, SEMP, SEMPIND, CONTROLS)$