Corporate social responsibility and inside debt: The long game

We examine the effect of CEO inside debt on corporate social responsibility (CSR). We document a positive relation between CEO inside debt and CSR. This positive relation is attenuated not only when firms face high risk, but also when firms have high short-term institutional ownership. Our evidence supports the view that CEOs with large inside debt holdings are more concerned about firm sustainability and, are therefore more likely to prefer CSR for long-term firm benefits, i.e., the long game. We also find that CSR and CEO inside debt jointly exert a significantly positive impact on long-run stock performance, particularly in the presence of a low level of short-term institutional holdings. Overall, our findings highlight the importance of aligning institutional investor preferences with CEO incentives in order to maximize shareholder benefits from CSR investment.     

Good for managers,bad for society? Causal evidence on the association between risk-taking incentives and corporate social responsibility

Using FAS 123R as an exogenous shock to stock options, I provide evidence that equity-based risk-taking incentives discourage corporate social responsibility (CSR). This finding suggests that compensation incentives can motivate managers not to pursue CSR strategies because CSR reduces firms’ risk and provides insurance-like benefits. Firms with a greater demand for CSR's risk reduction are more sensitive to changes in risk-taking incentives. I triangulate my results by confirming that CSR weaknesses are positively related to subsequent stock return volatility. Overall, using a robust empirical design, I find that risk-taking incentives are a determinant of firms’ CSR.     

Corporate cash holdings and CEO compensation incentives

We examine the effect of chief executive officer (CEO) compensation incentives on corporate cash holdings and the value of cash to better understand how compensation incentives designed to enhance the alignment of manager and shareholder interests could influence stockholder-bondholder conflicts. We find a positive relation between CEO risk-taking (vega) incentives and cash holdings, and we find a negative relation between vega and the value of cash to shareholders. The negative effect of vega on the value of cash is robust after controlling for corporate governance, is stronger in firms with high leverage, is reversed for unlevered firms, and is not present in financially constrained firms. We also find that the likelihood of liquidity covenants in new bank loans is increasing in CEO vega incentives. Our evidence primarily supports the costly contracting hypothesis, which asserts that bondholders anticipate greater risk-taking in high vega firms and, therefore, require greater liquidity.     

Analyst coverage,executive compensation and corporate risk-taking: Evidence from property–casualty insurance firms

Using an exogenous drop in analyst coverage introduced by broker closures and mergers, we test for the causal impact of analyst coverage on corporate risk-taking, in an opaque industry. We document an increase in risk using several book-based and market-based risk measures, including tail and default risk measures. Results are driven by firms with stronger managerial risk-taking compensation incentives. The increase in risk is stronger in more opaque firms, and firms with weaker policyholder monitoring. Firm risk increases through at least one risk-taking action, such as investing firm assets in higher-risk bonds. Our study highlights the importance of stock analysts in affecting corporate risk-taking, especially in the presence of stronger managerial, compensation risk-taking incentives.     

CEO age and the riskiness of corporate policies

Prior theoretical work generates conflicting predictions with respect to how CEO age impacts risk-taking behavior. Consistent with the prediction that risk-taking behavior decreases as CEOs become older, I document a negative relation between CEO age and stock return volatility. Further analyses reveal that older CEOs reduce firm risk through less risky investment policies. Specifically, older CEOs invest less in research and development, make more diversifying acquisitions, manage firms with more diversified operations, and maintain lower operating leverage. Further, firm risk and the riskiness of corporate policies are lowest when both the CEO and the next most influential executive are older and highest when both of these managers are younger. Although older CEOs prefer less risky investment policies, I document results suggesting that CEO and firm risk preferences tend to be aligned. Lastly, I find that a trading strategy that goes long in a portfolio of stocks consisting of firms managed by younger CEOs and short in a portfolio of stocks comprised of firms led by older CEOs would generate positive risk-adjusted returns. Overall, my results imply that CEO age can have a significant impact on risk-taking behavior and firm performance.     

CEO tournament incentives and corporate debt contracting

This study examines the relation between CEO tournament incentives, proxied by the difference between CEO pay and the median pay of the senior executives of a given firm, and corporate debt contracting. We find negative relations between CEO pay gap and the cost of debt and default risk, and a positive relation between CEO pay gap and debt maturity. Further analysis indicates that the results are stronger for firms with near-retirement CEOs, which are more likely to run CEO tournaments. Our evidence suggests that creditors view tournament incentives favorably and are willing to provide better debt terms.     

Corporate social responsibility overinvestment in mergers and acquisitions

Corporate social responsibility (CSR) has been advocated by scholars and practitioners whereas overinvestment in CSR can destroy value. This paper investigates how CSR overinvestment influences firm value in the context of mergers and acquisitions (M&As). Specifically, we examine the shareholder wealth and financial performance of firms who bid on targets with CSR overinvestment. The results suggest that firms purchasing CSR-overinvesting targets experience significant declining market reactions to the M&A announcements and deteriorating financial performance following the M&A transactions. We further show significant improvement in CSR ratings and CEO pay among acquirers purchasing CSR-overinvesting targets. Moreover, the adverse effects of CSR-overinvesting targets on M&A outcomes are more pronounced for the acquiring firms with weak corporate governance or with retiring CEOs. Our findings suggest that a firm makes a value-destroying M&A with a CSR-overinvesting target probably for the benefit of improved CSR and CEO gains. This study provides evidence for the agency view of CSR investment in the context of M&As.     

Tournament incentives, firm risk, and corporate policies

This paper tests the proposition that higher tournament incentives will result in greater risk-taking by senior managers in order to increase their chance of promotion to the rank of CEO. Measuring tournament incentives as the pay gap between the CEO and the next layer of senior managers, we find a significantly positive relation between firm risk and tournament incentives. Further, we find that greater tournament incentives lead to higher R&D intensity, firm focus, and leverage, but lower capital expenditures intensity. Our results support the hypothesis that option-like features of intra-organizational CEO promotion tournaments provide incentives to senior executives to increase firm risk by following riskier policies. Finally, the compensation levels and structures of executives of financial institutions have received a great deal of scrutiny after the financial crisis. In a separate examination of financial firms, we again find a significantly positive relation between firm risk and tournament incentives.     

CEO risk-taking incentives and socially irresponsible activities

This study examines the relationship between CEO risk-taking incentives, measured by the sensitivity of CEO wealth held in options to a change in stock return volatility or Vega, and socially irresponsible activities using a large sample of U.S. firms during the period 1992–2012. Our results for the period before the 2007 financial crisis suggest that CEO risk-taking incentives are positively related to socially irresponsible activities. In addition, we find that a firm's socially responsible actions may act as a moderator, strengthening the aforementioned relationship. The results after the 2007 financial crisis show no evidence of a significant relationship between CEO risk-taking incentives and socially irresponsible activities. This could be due to the increased scrutiny regarding compensation packages and the increased role of reputational issues in the aftermath of the financial crisis. Our results suggest that risk-taking incentives embedded in the CEO compensation scheme have implications for corporate policies toward socially irresponsible activities.     

Inside debt and firm risk-taking: Evidence from the UK pension reform

This paper provides new evidence on the relation between CEO inside debt and firm risk-taking by exploiting the change in the tax treatment of UK pensions following two pension amendments. The 2006 pension reform introduces the annual and lifetime allowance for UK pension schemes, significantly increasing income taxes associated with CEO inside debt. The 2011 allowance cut, which substantially reduces the annual allowance introduced in 2006, further increases income taxes on inside debt. We find that CEO inside debt, in the form of executive pensions declines after the 2006 reform while cash-in-lieu increases significantly. This effect is more severe after the 2011 allowance cut than the 2006 pension reform. UK firms appear to substitute away from pensions towards cash-in-lieu, where income taxes are less punishing. If the association between CEO inside debt and firm risk-taking is causal, we should observe a change of risk-taking after the decline of inside debt. Our results, which exploit the exogenous nature of the reforms, show that the decline of CEO pensions does not lead to any change in firm risk-taking. This result suggests that no causal relationship exists between CEO inside debt and firm risk-taking. Our results extend the inside debt literature, where empirical evidence is mainly documented in the US. Contrary to findings in the US, our evidence suggests that the use of CEO inside debt is motivated to minimise income tax rather than a tool to moderate firm risk.     

CEO risk-taking incentives and relative performance evaluation

This paper examines how changes in CEO risk-taking incentives are associated with changes in the use of relative performance evaluation (RPE) in CEO contracts. Using a shock to the accounting for executive stock options (FAS 123R), I confirm that risk-taking incentives and option grants declined following FAS 123R using a within-firm design, but not a within-CEO-firm design. Decreased risk-taking incentives lead executives to invest in projects with lower systematic risk and can result in reduced incentives to hedge exposure to systematic risk in CEO compensation contracts via RPE. However, CEO relative risk aversion increases with decreases in risk-taking incentives, potentially increasing incentives to protect CEO wealth from systematic performance via RPE. Testing these competing predictions, I find modest evidence consistent with reduced RPE surrounding FAS 123R, suggesting that when CEO risk-taking incentives are reduced, so are incentives to shield CEO pay from systematic performance.     

Investor pricing of CEO equity incentives

The main purpose of this paper is to explore CEO compensation in the form of stock and options. The objective of CEO compensation is to better align CEO-shareholder interests by inducing CEOs to make more optimal (albeit risky) investment decisions. However, recent research suggests that these incentives have a significant down-side (i.e., they motivate executives to manipulate reported earnings and lower information quality). Given the conflict between the positive CEO-shareholder incentive alignment effect and the dysfunctional information quality effect, it is an open empirical question whether CEO equity incentives increase firm value. We examine whether CEO equity incentives are priced in the firm-specific ex ante equity risk premium over the 1992–2007 time period. Our analysis controls for two potential structural changes over this time period. The first is the 1995 Delaware Supreme Court ruling which increased protection from takeovers (and decreased risk) for Delaware incorporated firms. The second is the 2002 Sarbanes–Oxley Act which impacted corporate risk taking, equity incentives, and earnings management. Collectively, our findings suggest that CEO equity incentives, despite being associated with lower information quality, increase firm value through a cost of equity capital channel.     

Corporate social responsibility and classification shifting

This study examines the relation between corporate social responsibility (CSR) and firm behavior to misclassify core expenses as special items in the income statement to inflate core earnings (i.e., classification shifting). We find that firms with good CSR performance (high-CSR firms) are less likely to engage in classification shifting than firms with poor CSR performance (low-CSR firms). We also find that high-CSR firms engage in less classification shifting even when they have greater incentives to meet earnings benchmarks. Overall, our results are consistent with the notion that socially responsible firms behave ethically in financial reporting.     

Tournament-based incentives and media sentiment

We find that promotion-based tournament incentives of executives are positively associated with firms’ media sentiment. This effect is more pronounced among firms with greater need for media favourability, captured by higher information opacity, lower analyst coverage, lower industry homogeneity, lower investment sentiment and lower managerial ability. Furthermore, we identify better financial performance and higher corporate branding as two channels through which tournament incentives can enhance a firm’s positive media sentiment. Our results are also robust to two quasi-natural experiments affecting promotion-based tournaments – (a) an exogenous CEO turnover due to health issues or sudden CEO death, and (b) the implementation of Say-on-Pay (SOP) law. Overall, our findings indicate that tournament-based incentives encourage a firm’s executives to showcase their skills to broader stakeholders, which consequently increases a firm’s media image.     

CEO contractual protection and debt contracting

Chief Executive Officer (CEO) contractual protection, in the forms of CEO employment agreements and CEO severance pay agreements, is prevalent among S&P 1500 firms. While prior research has examined the impact of these agreements on corporate decisions from shareholders’ perspective, there is little research on the impact from debt holders’ perspective. We find that, compared with other loans, loans issued by firms with CEO contractual protection on average contain more performance covenants and performance-pricing provisions. This effect increases with CEOs’ risk-taking incentives and opportunities, but it decreases with CEOs’ preference for and opportunity of enjoying a quiet life. Furthermore, for loans issued by firms with CEO contractual protection, debt holders include stricter covenants, charge a higher interest rate and use a more diffuse syndicate structure. Collectively, these results shed light on the impact of CEO contractual protection on debt contracting.     

Does executive portfolio structure affect risk management? CEO risk-taking incentives and corporate derivatives usage

This paper extends the investigation of the effect of managerial motives on hedging policy. I utilize a proxy variable that incorporates CEO incentives to increase risk relative to incentives to increase stock price. The variable is directly measured using observed characteristics of CEO portfolios of stock and option holdings. Furthermore, CEO risk-taking incentives are modeled as a choice variable to eliminate the simultaneity bias of modeling risk-taking incentives as an exogenous variable. If modeled as a simultaneous system of equations, a strong negative link between CEO risk-taking incentives and the amount of derivative holdings exists. This result is consistent with the notion that derivatives are used for hedging purposes. Both the characteristics of stock and option holdings are important in determining cross-sectional differences in corporate derivative holdings.     

Female CFOs,leverage and the moderating role of board diversity and CEO power

This paper investigates the extent to which female Chief Financial Officers (CFOs) affect corporate leverage. We examine female CFOs in UK firms and find that they significantly reduce the leverage of the firm; however, a female CFO's ability to influence corporate leverage is moderated by the senior decision-making environment in the firm. In particular, female CFOs are more effective in reducing leverage in firms with boards that are diverse with respect to gender, nationality and age, and in firms where the Chief Executive Officer (CEO) is not overly powerful. In addition, we find that externally appointed female CFOs reduce leverage more, in line with them having less allegiances to other top managers and greater scope to deviate from existing policies. Our work contributes to the literature by examining the conditions under which gender-specific risk-taking preferences lead to observable effects on corporate outcomes.     

Corporate social responsibility,credit rating,and private debt contracting: new evidence from syndicated loan market

We examine the impact of corporate social responsibility (CSR) activities on loan spreads of syndicated bank loans, with a particular interest in how CSR and credit ratings are interrelated as a joint determinant of loan spreads. Focusing on private debt contracts, we show that both CSR strengths and concerns are related to their loan spreads. CSR strengths work to lower firm risk, hence reducing the loan spread, whereas CSR concerns increase firm risk, thus increasing the loan spread. Once we include detailed credit rating information in the models, however, CSR concerns lose significance, but CSR strengths remain significantly related to the loan spread. We also find that both CSR strengths and CSR concerns are related to loan spread for non-rated firms, but the CSR concern effect is stronger than the CSR strength effect for these firms. A further test shows that firm risk measured by stock return volatility plays as a direct channel through which a firm’s CSR activities affect loan spreads, whose result lends further support to our main results. Overall, our results provide strong evidence that CSR matters to the pricing of loan contracts beyond credit rating information and the results remain robust to the possible firm size effect and the endogeneity issues.     

Corporate risk-taking,firm value and high levels of managerial earnings forecasts

We examine the impact of high levels of managerial earnings forecasts, an important form of voluntary disclosure, on corporate risk-taking and firm value. Theory and anecdotal evidence suggest that a policy of high disclosure may reduce managers' willingness to invest in higher-risk, higher-return projects. We first verify, as in prior research, that corporate risk-taking is associated with higher future firm value. We then document a negative relation between firms with high levels of forecasting and corporate risk-taking. Finally, we provide evidence suggesting that high levels of managerial earnings forecasts reduce the positive association between corporate risk-taking and future firm value. Our results are robust to alternative measures of corporate risk-taking and future firm value, and alternative definitions of high levels of managerial earnings forecasts. Our results may be of importance to varying interests as they highlight the potential for high levels of earnings forecasts to inhibit corporate risk-taking and lower firm value.     

Corporate governance when founders are directors

We examine chief executive officer (CEO) compensation, CEO retention policies, and mergers and acquisition (M&A) decisions in firms in which founders serve as a director with a nonfounder CEO (founder-director firms). We find that founder-director firms offer a different mix of incentives to their CEOs than other firms. Pay-for-performance sensitivity for nonfounder CEOs in founder-director firms is higher and the level of pay is lower than that of other CEOs. CEO turnover sensitivity to firm performance is also significantly higher in founder-director firms compared with nonfounder firms. Overall, the evidence suggests that boards with founder-directors provide more high-powered incentives in the form of pay and retention policies than the average US board. Stock returns around M&A announcements and board attendance are also higher in founder-director firms compared with nonfounder firms.