What Happens When the CFO Is the COO, Too?

A new academic study could dim perceptions that problems may arise when one executive holds both roles.
David McCannJune 20, 2019

A notable development in corporate governance over the past two decades is that CFOs have considerably expanded their management role, in some instances taking on the additional position of chief operating officer.

While the increase in CFO/COO duality and the resultant savings in C-suite salaries it has occasioned have been quite clear, the effects on companies’ operations and financial reporting remain unclear.

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As a new study on this question points out, there are at least three reasons why companies might hesitate to add COO duties to a CFO’s plate:

  • Traditional COO responsibilities (e.g., strategy implementation, handling disturbances, marketing, customer relations, R&D) are incongruent with the stereotypical perception of CFOs as accounting and finance specialists.
  • It can be argued that the combined responsibilities and duties of a CFO/COO role might overburden the executive.
  • It’s possible that the combination of operational objectives (tied to COO incentives) with financial reporting may lead the executive to opportunistically use accruals to meet operational targets.

The study, published in the current edition of the American Accounting Association’s Journal of Management Accounting Research, could help allay such concerns. Its conclusion: “Managers from a financial background can fulfill operational roles admirably.”

The research yielded “no evidence that CFO/COO duality adversely … affects operations, a finding that may calm concerns about the operational business acumen of accountants,” wrote the authors, Steve Buchheit, Austin Reitenga, and Daniel Street of the University of Alabama and George Ruch of the University of Oklahoma.

Regarding financial reporting quality, accruals by companies with CFO/COO duality “are relatively more predictive of future cash flows compared with the accruals of control firms,” they wrote. “We interpret this finding as an indicator that financial reporting quality improves in the presence of CFO/COO duality.”

The study’s findings derive from data on a large sample of companies (438 with a CFO/COO and 3,100 with the positions separate) from 2000 through 2016.

Among those, 271 companies were selected for analyses based on the availability of: (1) requisite operational and financial reporting data; and (2) appropriate matches between companies in the duality category (where the same person is CFO and either COO or president) and otherwise similar firms where the two positions are separate.

In one analysis, duality firms and their matches were compared on operations and financial reporting; in another, the relevant comparisons were between years in which companies had a dual CFO-COO and years when the same firms separated the positions.

Information from the full sample of 3,538 companies revealed that duality firms were much smaller, had higher leverage and market-to-book ratios, and had lower returns on assets and operating cash flows. In the words of the study, “duality firms can be loosely categorized as growth firms.”

CFOs in duality firms were about 20% less likely to be CPAs; more than twice as likely to be at least age 62; greater than a third more likely to have been a CFO at a previous employer; and almost seven times more likely to be company board members.

Controlling for these and other factors, the authors assessed the quality of financial reporting through measures of discretionary accruals — that is, non-cash accounting items that typically entail some element of estimation (such as anticipated revenues from credit sales or predictions of future write-offs of bad debt) and therefore can lead to managerial manipulation.

The researchers found that duality firms have an edge in estimations, as measured by the concordance between asset-increasing accruals in one year and increased cash the following year.

To assess the quality of operations, the researchers measured discretionary expenditures (advertising plus R&D plus sales, general, and administrative expenses) in one year against cash flow and return on assets the following year.

Since discretionary expenditures lend themselves to manipulation, the effect of increasing or reducing them on subsequent cash flow and profitability provides a handy gauge of top executives’ management skills. The researchers found “no evidence that the discretionary expenditures of CFO/COO duality companies influence future cash flows or [return on assets] in a way that differs from matched firms.”

What, then, accounts for the fact that the quality of operations and financial reporting in duality firms equals or exceeds those in companies with traditional executive structures?

While the researchers reached no definitive conclusion on that, they did offer a guess. “Management research suggests that intrapersonal functional diversity is positively associated with firm performance,” they wrote. “In addition, communicating across differentiated specialists is problematic; as such, unifying the CFO/COO position might eliminate communication problems between separate CFO and COO executives.”

Making improved communication from duality all the more likely, Buchheit notes, is that the relationship of CFOs and COOs in corporate management is frequently adversarial.

The authors acknowledged that because of data limitations, their study did not fully address the expanded roles short of CFO/COO duality that finance chiefs have assumed in corporate governance.

Buchheit and Reitanga said, however, that they believe the outcomes are much the same when a CFO has an expanded role even without a dual title.