Compensation Committee Quality and Effective Executive Remuneration

Abstract

Grounding in the agency theory, this paper questions whether high quality compensation committee influences the design of executive remuneration towards the alignment of the contrasting interests between managers and shareholders. Relying on a comprehensive approach that captures the compensation committee quality based on different attributes (i.e. independence, interlocking directorates, directors appointed by minorities) we conduct a two-step empirical analysis. First, we illustrate the evolution over time of the stock option plan characteristics and construct an illustrative diagram that shows the linkages between the attributes of the compensation committee quality and the elements of the option plans. Second, we run a probit regression analysis to deeply investigate the picture emerging from the diagram. Our results document that the quality of compensation committee significantly affects the assignment of incentive stock option plans. The paper evidence advances the knowledge in the literature on compensation committee and executive remuneration, by highlighting that structural characteristics of the committee other than independence of its members play a pivotal role in writing effective remuneration contracts for the executives. Our findings are also useful for investors and policymakers.