17 Management Accounting: Executive Compensation/Corporate Governance
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ItemStock Price Based Compensation and Managerial Myopia in a Dynamic Agency Setting( 2019-09-01)I study the impact of stock price informativeness on incentives and contractual efficiency in a dynamic agency setting. In the model, the firm's stock price is the outcome of speculative trading that efficiently impounds dispersed information in the market. The stock price is an aggregate and rational forecast of future firm value, but as a managerial performance measure, it includes incentive irrelevant noise and is insensitive to the actual effort decision of the manager. Under multi-period contracting, the interim stock price also acts as the performance benchmark for the subsequent period. When contracts are renegotiated in light of updated beliefs about future firm value, these two conflicting roles of stock price -- current performance measure and future performance benchmark -- are not optimally coordinated over time. Consequently, there are many situations where stock price informativeness negatively impacts the manager's long-term effort incentive and contractual efficiency. Furthermore, when firm insiders can form their own more accurate forecast of future cash flow, a long-term renegotiable contract contingent only on realized cash flow can outperform a long-term full commitment contract contingent on both interim stock price and realized cash flow.
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ItemThe determinants and consequences of finance committee use( 2019-08-30)Finance committees are the most commonly created voluntary committees of boards. Finance committees oversee and advise management on financial issues. We study why firms create finance committees and whether firms benefit from using a finance committee. We predict that firms that need finance expertise would benefit the most from having a finance committee, and thus, are more likely to form such a committee. We find that firms are more likely to have a finance committee when they have derivatives, defined benefit pension plans, high leverage and credit ratings, and active dividend payout. We examine the impact of finance committees on investment performance using two proxies, investment efficiency and capital expenditure (capex) guidance quality. We find that firms with a temporary finance committee invest more efficiently and provide capex guidance more frequently. We find no association between finance committee use and capex forecast issuance, accuracy and precision.
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ItemThe Value of Academic Directors to Stakeholders: Evidence on Corporate Social Responsibility Reporting( 2019-08-30)This study explores the regulatory setting in Taiwan and examines the association between academic directors and corporate social responsibility (CSR) reporting. We find that firms with academic directors on the board are more likely to issue a stand-alone CSR report and obtain third-party assurance on their CSR reports. We also find a positive association between CSR reporting and academic directors with industry expertise. Further cross-sectional analyses indicate that the positive relation between academic directors (and their industry expertise) and CSR reporting is stronger in firms with higher growth, greater institutional ownership, and lower control-ownership divergence. Our findings that the presence of academic directors can promote better sustainability reporting suggest that academic directors contribute not only to shareholder value but also to wider stakeholder interests.
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ItemExecutive Equity Compensation and Tax Avoidance: The Effect of Firm Size( 2019-08-26)This study examines whether executive equity-based compensation provides incentives to engage in greater tax avoidance. Relying on agency and tax exhaustion theories, we posit that the relation between equity compensation and tax avoidance is more positive in smaller firms than in larger firms. Using a recently available compensation database, which includes a much broader universe of companies, we find that tax avoidance is increasing in equity incentives, but only in smaller firms. These results suggest that differences in firm size and the resulting implication for the association between equity compensation and tax avoidance at least partially explain why some empirical tests based on large-firm samples fail to corroborate economic theory. We provide the novel insight that size is a boundary condition that reconciles the seemingly conflicting agency and tax exhaustion theories with respect to the relation between equity compensation and tax avoidance.
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ItemExecutive Compensation, Insider Trading Profitability, and Individual-Level Tax Rates( 2019-08-22)Prior studies suggest that executive compensation is unresponsive to changes in individual-level tax rates. We consider the use of private information in insider trading as an alternative means for executives to shift the impact of changes in individual-level tax rates to shareholders. We examine insider trading profitability around the enactment of three recent individual-level tax rate changes in the U.S. For each of these events, we find that the insider trading profitability is positively associated with changes in individual-level tax rates and that the economic magnitude of the effects varies between 170 and 290 basis points. Using a difference-in-differences analysis, we show that our findings apply to executives who are subject to taxation in the U.S., and not to executives in foreign firms, who are not subject to the U.S. tax laws. Our findings are stronger for firms with higher information asymmetry, where insiders likely have more private information to trade on, and for insiders with relatively low compensation, whose marginal utility from an additional dollar of compensation is likely higher. We conclude that executives implicitly adjust their compensation when tax rates change, and hence pass a significant portion of the tax effects onto shareholders.
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ItemThe Effect of Peer Group Overlap in Executives’ RPE Contracts on Competitive Aggressiveness( 2019-08-22)We investigate how peer group overlap within executives’ relative performance evaluation (RPE) contracts influences firms’ competitive aggressiveness. Conditional on using RPE, we hypothesize and find that if two firms have each other as peers in their respective RPE contracts, this creates a strategic interaction, which in turn increases their competitive aggressiveness. Specifically, firms in growing industries act aggressively by taking more frequent competitive actions, while firms in mature industries act aggressively through taking more complex actions. This also holds for a sample of exogenous changes in peer group overlap and when we compare it to non-RPE firms.
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ItemDoes Sensationalism Affect Executive Compensation? Evidence from Pay Ratio Disclosure Reform( 2019-08-14)Beginning in 2018, publicly-traded U.S. firms were required to report the ratio of the chief executive officer’s (CEO) compensation to that of the median employee’s compensation in the annual proxy statement. Our study examines the effect of the mandated pay ratio disclosure on executive compensation. We find that pay ratio disclosure leads to declines in both total compensation and pay-for-performance sensitivity for CEOs relative to chief financial officers (CFOs). Our effects are strongest for firms that are more sensitive to political pressure. Taken together, our paper provides the first evidence that pay ratio disclosure achieves regulators’ goal of curtailing CEO compensation but also leads to an unintended decline in pay-for-performance sensitivity.
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ItemHow Do CEOs Make Investment Decisions in Their Early Years of Tenure? Evidence from Investment Efficiency( 2019-08-03)Career concerns are escalated during the early years of a CEO’s tenure because the market is uncertainty about the new CEO’s ability and the compatibility between his or her skills and the firm’s strategic needs. This study examines whether such increased career concerns induce investment inefficiency during the early years of a CEO’s tenure. I find that underinvestment is more likely to happen in the early years than in the later years, and that the underinvestment problem is most evident when the CEO is externally appointed, holds an interim position, and has low managerial ability, and when the firm has a higher level of information asymmetry and lower financial reporting quality. I also find that firms are less likely to issue debts during those early years, which suggests that a reduced supply of capital can contribute to the underinvestment phenomenon in the early years of a CEO’s tenure. Together, these findings indicate that during the early years of a CEO’s service, especially in contexts where career concerns are high and the information environment is more asymmetric, investment inefficiency is more likely to occur.
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ItemThe effect of misalignment of CEO risk tolerance and corporate governance structures on firm performance( 2019-06-12)To explore the link between corporate governance and performance, we examine whether the misalignment of CEO risk tolerance (based on an index constructed from personal traits) and governance structures affects company performance. Utilizing the IBM Watson Personality Insights service to analyze verbal communication by the most senior executives of large US companies to obtain their fundamental Big Five personality traits, our study proposes two hypotheses: First, CEO risk tolerance and corporate governance structures are associated, and second, misalignment of these structures with risk tolerance negatively affects financial performance. We use a large sample of over 8,000 firm-year observations and a two-stage contingency approach suggested by Ittner and Larcker (2001) to test our hypotheses. Our findings are consistent with our misalignment–CEO risk tolerance predictions and support upper echelons theory in the corporate governance setting.