How do ‘busy’ and ‘overlap’ directors relate to CEO pay structure and incentives?

We examine how CEO compensation is affected by the presence of busy and overlap directors. We find that CEOs at firms with more busy directors receive greater total pay, fixed salary and equity‐linked pay and exhibit higher pay‐performance (delta) and pay‐risk (vega) sensitivities. Our results also suggest that CEOs at firms with more overlap directors take smaller total pay and equity‐linked pay and reveal lower delta and vega. We further show that the impact of busy and overlap directors on CEO pay is more visible for firms with less complexity and low information acquisition cost.     

Stockholder and Bondholder Wealth Effects of CEO Incentive Grants

We examine stock and bond price reactions to CEOs’ first stock option and/or restricted stock grants that appear on ExecuComp. We find positive stock price and negative bond price reactions. Changes in CEO pay-performance (delta) and stock volatility (vega) sensitivities relate to the reactions. Stock reactions decrease with the change in delta and increase with the change in vega. Bond reactions are the opposite and depend on the CEO's prior equity ownership. Stockholder and bondholder wealth effects are negatively correlated for grants that cause a large change in the vega of CEO wealth, consistent with aggravated risk-shifting incentives.     

The relation between equity incentives and misreporting: The role of risk-taking incentives

Prior research argues that a manager whose wealth is more sensitive to changes in the firm?s stock price has a greater incentive to misreport. However, if the manager is risk-averse and misreporting increases both equity values and equity risk, the sensitivity of the manager?s wealth to changes in stock price (portfolio delta) will have two countervailing incentive effects: a positive “reward effect” and a negative “risk effect.” In contrast, the sensitivity of the manager?s wealth to changes in risk (portfolio vega) will have an unambiguously positive incentive effect. We show that jointly considering the incentive effects of both portfolio delta and portfolio vega substantially alters inferences reported in prior literature. Using both regression and matching designs, and measuring misreporting using discretionary accruals, restatements, and enforcement actions, we find strong evidence of a positive relation between vega and misreporting and that the incentives provided by vega subsume those of delta. Collectively, our results suggest that equity portfolios provide managers with incentives to misreport when they make managers less averse to equity risk.     

Executive stock options,differential risk-taking incentives,and firm value

The sensitivity of stock options' payoff to return volatility, or vega, provides risk-averse CEOs with an incentive to increase their firms' risk more by increasing systematic rather than idiosyncratic risk. This effect manifests because any increase in the firm's systematic risk can be hedged by a CEO who can trade the market portfolio. Consistent with this prediction, we find that vega gives CEOs incentives to increase their firms' total risk by increasing systematic risk but not idiosyncratic risk. Collectively, our results suggest that stock options might not always encourage managers to pursue projects that are primarily characterized by idiosyncratic risk when projects with systematic risk are available as an alternative.     

Stock option grants to target CEOs during private merger negotiations

Unscheduled stock options to target chief executive officers (CEOs) are a nontrivial phenomenon during private merger negotiations. In 920 acquisition bids during 1999-2007, over 13% of targets grant them. These options substitute for golden parachutes and compensate target CEOs for the benefits they forfeit because of the merger. Targets granting unscheduled options are more likely to be acquired but they earn lower premiums. Consequently, deal value drops by $62 for every dollar target CEOs receive from unscheduled options. Conversely, acquirers of targets offering these awards experience higher returns. Therefore, deals involving unscheduled grants exhibit a transfer of wealth from target shareholders to bidder shareholders.     

Top management incentives and financial flexibility: The case of make‐whole call provisions

Consistent with the premise that make‐whole call provisions enhance value‐creating financial flexibility, we find that higher sensitivity of managerial wealth to stock price (delta) increases the likelihood that corporate bonds contain make‐whole provisions. Building on the results of related research, post‐issue financial performance of make‐whole callable bond issuers increases in delta. In line with prior findings that demonstrate financial flexibility can be costly to bondholders, we find that managerial equity incentives impact the incremental effect of make‐whole provisions on the pricing of corporate debt securities. Consistent with the flexibility explanation, we also find that the market response as measured by abnormal trading volume to the issuance of make‐whole callable debt varies in equity incentives. Overall, our results suggest that managerial incentives play a role in the choice, pricing, and market response to make‐whole options in corporate debt securities.     

Do executive stock options induce excessive risk taking?

We examine whether executive stock options can induce excessive risk taking by managers in firms’ security issue decisions. We find that CEOs whose wealth is more sensitive to stock return volatility due to their option holdings are more likely to choose debt over equity as a capital-raising vehicle. More importantly, the pattern holds not only in firms that are underlevered relative to their optimal capital structure but also in overlevered firms. This evidence is inconsistent with executive stock options aligning the interests of managers and shareholders; rather, it supports the hypothesis that stock options sometimes make managers take on too much risk and in the process pursue suboptimal capital structure policies.     

Managerial incentives and risk-taking

We provide empirical evidence of a strong causal relation between managerial compensation and investment policy, debt policy, and firm risk. Controlling for CEO pay-performance sensitivity (delta) and the feedback effects of firm policy and risk on the managerial compensation scheme, we find that higher sensitivity of CEO wealth to stock volatility (vega) implements riskier policy choices, including relatively more investment in R&D, less investment in PPE, more focus, and higher leverage. We also find that riskier policy choices generally lead to compensation structures with higher vega and lower delta. Stock-return volatility has a positive effect on both vega and delta.     

The Propensity to Split and CEO Compensation

We analyze the relation between the delta and vega of a chief executive officer's (CEO) compensation and the propensity of the firm to engage in a split. Controlling for other well‐known factors, we find that CEOs with compensation that has higher levels of delta are more likely to split their shares. Furthermore, the choice of split factor is inversely related to delta. Our results are economically significant: for the average (median) firm in our sample, a stock split results in a CEO wealth gain of $4.9 million ($84,000).     

The impact of bank merger growth on CEO compensation

We examine the impact of bank mergers on chief executive officer (CEO) compensation during the period 1992–2014, a period characterised by significant banking consolidation. We show that CEO compensation is positively related to both merger growth and non‐merger internal growth, with the former relationship being higher in magnitude. While CEO pay–risk sensitivity is not significantly related to merger growth, CEO pay–performance sensitivity is negatively and significantly related to merger growth. Collectively, our results suggest that, through bank mergers, CEOs can earn higher compensation and decouple personal wealth from bank performance. Furthermore, we document a more severe agency problem in CEO compensation as a consequence of bank mergers relative to mergers in industrial firms. Finally, we find that the post‐financial crisis regulatory reform of executive compensation in banks has limited effectiveness in curbing the merger–pay links.     

Heterogeneity in the Effect of Managerial Equity Incentives on Firm Value

We document significant heterogeneity in the relation between chief executive officer (CEO) equity incentives and firm value using quantile regression. We show that CEO delta is more effective in the presence of ample investment opportunities, while CEO vega is more beneficial for firms lacking investment opportunities. Further, Tobin's Q increases in CEO delta for more risk‐tolerant firms but increases in CEO vega for more risk‐averse firms. We also observe that higher monitoring intensity after the Sarbanes‐Oxley Act reduces CEO delta's role in compensation. Risk aversion alters the optimal incentive‐value relation, and the nature of this relation also depends on the level of Tobin's Q.     

Value creation around merger waves: The role of managerial compensation

This paper examines the relation between executive compensation and value creation in merger waves. The sensitivity of CEO wealth to firm risk increases the likelihood of out-of-wave merger transactions but has no influence on in-wave merger frequency. CEOs with compensation linked to firm risk have better out-of-wave merger performance in comparison to in-wave mergers. We also present evidence that cross-sectional acquirer return dispersion is greater for in-wave acquisitions. Our results suggest that the underperformance of acquiring firms during merger waves can be attributed in part to ineffective compensation incentives, and appropriate managerial incentives can create value, particularly in non-wave periods.     

It Takes Two: The Incidence and Effectiveness of Co‐CEOs

This study examines the phenomenon of co‐CEOs within publicly traded firms. Although shared executive leadership is not widespread, it occurs within some very prominent firms. We find that co‐CEOs generally complement each other in terms of educational background or executive responsibilities. Our results show that firms most likely to appoint co‐CEOs have lower leverage, a more limited firm focus, less independent board structure, fewer advising directors, lower institutional ownership, and greater levels of merger activity. The governance structure of co‐CEO firms suggests that co‐CEOships can serve as an alternative governance mechanism, with co‐CEO mutual monitoring substituting for board or external monitoring and co‐CEO complementary skills substituting for board advising. An event study indicates that the market reacts positively to appointments of co‐CEOs while a propensity score analysis shows that the presence of co‐CEOs increases firm valuation.     

Managerial risk incentives and investment related agency costs

We assess the impact of compensation based incentives together with monitoring mechanisms on investment related agency costs. The results indicate that well structured compensation based incentives significantly reduce agency costs. Managerial firm based wealth delta has a significant, negative effect on agency costs for firms in all size categories. The significance of managerial firm based wealth vega in reducing agency costs is concentrated in small firms, suggesting that vega exposure is more effective where risk is higher. The significance of cash compensation in reducing agency costs is concentrated in the large firms. This result implies that higher cash compensation reduces agency costs by allowing risk-averse managers the opportunity to diversify outside the firm.     

Mergers increase default risk

We examine the impact of mergers on default risk. Despite the potential for asset diversification, we find that, on average, a merger increases the default risk of the acquiring firm. This result cannot solely be explained by the tendency for generally safe acquirers to purchase riskier targets or by the tendency of acquiring firms to increase leverage post-merger. Our evidence suggests that managerial motivations may play an important role. In particular, we find larger merger-related increases in risk at firms where CEOs have large option-based compensation, where recent stock performance is poor, and where idiosyncratic equity volatility is high. These results suggest that the increased default risk may arise from aggressive managerial actions affecting risk enough to outweigh the strong risk-reducing asset diversification expected from a typical merger.     

CEO incentives and the cost of debt

Motivated by concerns that stock-based compensation might lead to excessive risk-taking, this paper’s main purpose is to examine the relations between CEO incentives and the cost of debt. Unlike prior research, this paper uses the sensitivities of CEO stock and option portfolios to stock price (delta) and stock return volatility (vega) to measure CEO incentives to invest in risky projects. Higher delta (vega) is predicted to be related to lower (higher) cost of debt. The results show that yield spreads on new debt issues are lower for firms with higher CEO delta and are unrelated to CEO vega. The results also show that yield spreads are higher for firms whose CEOs hold more shares and stock options. In sum, the results suggest that both percentage-ownership and option sensitivity variables are important in understanding relations between CEO incentives and the cost of debt.     

Post‐Merger Performance of Bank Holding Companies, 1987–1998

This paper examines the results of material mergers between bank holding companies (BHCs). Merged BHCs experience post‐merger profitability below the industry average. The market reaction to the merger announcements is significantly negative. The most important causes of the poor post‐merger performance are credit quality and the inadequate generation of fee income. Asset mix and capitalization also play a major part. The controllability of these items demonstrates the management challenge associated with a material merger.     

CEO Compensation and Firm Performance: an Empirical Investigation of UK Panel Data

This paper examines the link between CEO pay and performance employing a unique, hand‐collected panel data set of 390 UK non‐financial firms from the FTSE All Share Index for the period 1999–2005. We include both cash (salary and bonus) and equity‐based (stock options and long‐term incentive plans) components of CEO compensation, and CEO wealth based on share holdings, stock option and stock awards holdings in our analysis. In addition, we control for a comprehensive set of corporate governance variables. The empirical results show that in comparison to the previous findings for US CEOs, pay‐performance elasticity for UK CEOs seems to be lower; pay‐performance elasticity for UK CEOs is 0.075 (0.095) for cash compensation (total direct compensation), indicating that a ten percentage increase in shareholder return corresponds to an increase of 0.75% (0.95%) in cash (total direct) compensation. We also find that both the median share holdings and stock‐based pay‐performance sensitivity are lower for UK CEOs when we compare our findings with the previous findings for US CEOs. Thus, our results suggest that corporate governance reports in the UK, such as the Greenbury Report (1995) that proposed CEO compensation be more closely linked to performance, have not been totally effective. Our findings also indicate that institutional ownership has a positive and significant influence on CEO pay‐performance sensitivity of option grants. Finally, we find that longer CEO tenure is associated with lower pay‐performance sensitivity of option grants suggesting the entrenchment effect of CEO tenure.     

The Moderating Effect of Relative Performance Evaluation on the Risk Incentive Properties of Executives’ Equity Portfolios

We offer evidence that the use of relative performance evaluation (RPE) in CEOs’ incentive contracts influences the effect of risk‐taking incentives on both the magnitude and composition of firm risk. We find that, when the incentive design lacks RPE features, the incentive portfolio vega motivates CEOs to increase total risk through the systematic component because it can be hedged. In contrast, when the incentive design includes RPE features, CEOs prefer idiosyncratic risk because RPE filters out the systematic component of firm performance. We also document that the use of RPE reinforces the incentive portfolio vega's effect on the total risk.     

EX‐DIVIDEND DAY PRICE BEHAVIOR OF EXCHANGE‐TRADED FUNDS

We document that for exchange‐traded funds (ETFs), the price falls on average by the dividend amounts on the ex‐dividend day, and there are significantly positive abnormal volumes. This is because trading in ETFs entails lower transaction costs and lower risk than trading in equity closed‐end funds (CEFs) and individual stocks. Similar results are also found for equity CEFs. However, regression analyses indicate that transaction costs and risk are indeed negligible for ETFs but not for equity CEFs and that risk remains important for a sample of stocks matched based on transaction costs. Overall, the results support the short‐term traders hypothesis.