CEO social capital and contingency pay: a test of two perspectives

Abstract

Purpose – This paper aims to provide greater understanding of how the composition of pay reduces agency cost to the shareholders by examining how firms pay their chief executive officers (CEOs). More specifically, this study examines the relationship between CEOs’ social capital, measured as external directorships, and their contingency pay, the proportion of their compensation that depends on achieving long-term performance goals. Design/methodology/approach – The authors use a panel sample of Standard & Poor 500 CEOs to test two contrasting theoretical perspectives. From a board perspective, boards attempt to retain executives with more social capital working longer for the firms to utilize executives’ social capital and pay them more in the form of contingency pay. The CEO power perspective argues that CEOs wield social capital as a form of power to lower contingency pay in an attempt at preserving wealth. Findings – CEO social capital does not exacerbate agency pressures. Boards reward the long-term benefits of social capital accumulated by CEOs through higher proportions of contingency pay. Research limitations/implications – The authors considered CEOs of well-capitalized, publicly-traded US-based firms. So the results may not generalizable to other contexts. Practical implications – Boards do recognize and reward CEOs for their social capital, and use higher levels of contingency pay to lock in CEOs with social capital. Originality/value – This is the first study to explicitly examine the impact of CEO social capital on both non-equity and equity compensation.