Investor pricing of CEO equity incentives
Jeff P. Boone小学生学习方法 Inder K. Khurana K. K. Raman
Abstract
xiaogushi>video什么意思The main purpo 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 rearch suggests that the 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 increa 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 incread protection from takeovers (and decread
risk) for Delaware incorporated firms. The cond 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, increa firm value through a cost of equity capital channel.
Keywords：othersCEO equity incentives，Information quality，Cost of equity capital
Introduction
In this study, we investigate investor pricing of CEO equity incentives for a large sample of US firms over the period 1992–2007.Becau incentives embedded in CEO compensation contracts may be expected to influence policy choices at the firm level, our objective is to examine whether CEO equity incentives influence firm value through a cost of equity capital channel.
Prior rearch (e.g., Jenn et al. 2004; Jenn and Murphy 1990) suggests that equity- bad compensation, i.e., CEO compensation in the form of stock and options, provides t
着哩he CEO a powerful inducement to take actions to increa shareholder value (by investing in more risky but positive net prent value projects). Put differently, equity incentives are expected to help mitigate agency costs by aligning the interests of the CEO with tho of the shareholders, and otherwi help communicate to investors the important idea that the firm’s objective is to maximize shareholder wealth (Hall and Murphy 2003).
However, recent rearch contends that equity incentives also have a perver or dysfunctional downside. In particular, equity-bad compensation makes managers more nsitive to the firm’s stock price, and increas their incentive to manipulate reported earnings—i.e., to create the appearance of meeting or beating earnings benchmarks (such as analysts’ forecasts)—in an attempt to bolster the stock price and their personal wealth invested in the firm’s stock and options (Bergstresr and Philippon 2006; Burns and Kedia 2006; Cheng and Warfield 2005). Stated in another way, CEO equity incentives can have an adver effect on the quality of reported accounting information. As noted by Bebchuk and Fried (2003) and Jenn et al. (2004), by promoting perver fpipedream
inancial reporting incentives and lowering the quality of accounting information, equity-bad compensation can be a source of, rather than a solution for, the agency problem.
Despite the arguments about the putative ill effects of equity incentives, equity-bad compensation continues to be a salient component of the total pay packages for CEOs. Still, given the conflict between the positive incentive alignment effect and the dysfunctional effect of lower information quality, it is an open empirical question whether CEO equity incentives increa firm value. To our knowledge, prior rearch provides mixed evidence on this issue. For example, Mehran (1995) examines 1979–1980 compensation data and finds that equity-bad compensation is positively related to the firm’s Tobin’s Q. By contrast, Aboody (1996) examines compensation data for a sample of firms for years 1980 through 1990, and finds a negative correlation between the value of outstanding options and the firm’s share price, suggesting that the dilution effect dominates the options’ incentive alignment effect. Moreover, both the studies are bad on dated (i.e., pre-1991) data.
In our study, we examine whether CEO equity incentives are related to the firm-specific ex ante equity risk premium, i.e., the excess of the firm’s ex ante cost of equity capital over the risk-free interest rate (a metric discusd by Dhaliwal et al. 2006).Consistent with Core and Guay (2002), we measure CEO equity incentives as the nsitivity of the CEO’s stock and option portfolio to a 1 percent change in the stock price. Bad on a sample of 16,502 firm-year obrvations over a 16 year period (1992–2007), we find CEO equity incentives to be negatively related to the firm’s ex ante equity risk premium, suggesting that the positive incentive alignment effect dominates the dysfunctional effect of lower information quality.
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In other analysis, we attempt to control for two regulatory (structural) changes that occurred during the 1992–2007 time period of our study.As pointed out by Daines (2001), regulatory changes can have an impact on firm values and returns as well as the structure of executive compensation. First, Low (2020) finds that following the 95 Delaware Supreme Court ruling that resulted in greater takeover protection, managers reduced firm risk by turning down risk-increasing (albeit positive NPV) projects. In res
pon, firms incread CEO equity incentives to mitigate the risk aversion. Potentially, the impact of the Delaware ruling on managers’ risk aversion and the follow-up increa in equity incentives (to mitigate the increa in managers’ risk aversion following the ruling) may have resulted in a structural change in our sample at least for firms incorporated in Delaware. To control for this potential structural impact, we perform our analysis for Delaware incorporated firms for 1996–2007 parately. Our results suggest that the favorable effect of CEO equity incentives on firm value (as reflected in the lower ex ante equity risk premium) is similar for Delaware firms and other firms.
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