Financial reporting fraud and CEO pay-performance incentives |
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Institution: | 1. School of Foreign Languages for Business, Southwestern University of Finance and Economics, China;2. Institute of Chinese Financial Studies, Southwestern University of Finance and Economics, China;3. School of Business and Administration, Southwestern University of Finance and Economics, China |
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Abstract: | Because prior studies find mixed results on the relation between CEOs’ pay performance incentives and a firm’s likelihood of financial reporting fraud, we restudy their relationship using innovative research methods. First, we concentrate on incentives from granting options rather than equity-based incentives. Second, we emphasize vested options, disregarding unvested option holdings, and take the logarithm transformation of option incentives. Third, we analyse the impact of option incentives on future financial reporting irregularities. Using this innovative approach as well as a full sample and a matched sample, we find that an increase in executives’ option incentives raises the likelihood of financial reporting violations. Moreover, the effect of option incentives on financial reporting fraud is moderated by auditor effort. In addition, we find that another proxy for the measurement of executives’ option incentives, namely, the number of vested options by executives, is highly correlated with the CEO’s vested stock option sensitivity. |
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Keywords: | Financial fraud Pay-performance incentive Equity-based incentive |
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