Restraining Overconfident CEOs through Improved Governance: Evidence from the Sarbanes-Oxley Act

The literature posits that some CEO overconfidence benefits shareholders, though high levels may not. We argue adequate controls and independent viewpoints provided by an independent board mitigates the costs of CEO overconfidence. We use the concurrent passage of the Sarbanes-Oxley Act and changes to the NYSE/NASDAQ listing rules (collectively, SOX) as natural experiments to examine whether board independence improves decision-making by overconfident-CEOs. The results are strongly supportive: Post-SOX, overconfident CEOs reduce investment and risk exposure, increase dividends, improve post-acquisition performance, and have better operating performance and market value. Importantly, these changes are absent for overconfident-CEO firms that were compliant prior to passage.