Friendly compensation committees and pay‐for‐luck asymmetry: Evidence from Taiwan

Abstract

AbstractResearch Question/IssueThe study examines whether the presence of social ties between compensation committee members and executives explains pay‐for‐luck asymmetry in compensation, which means that the compensation contracts reward executives with higher pay for good luck but minimally penalize them with lower pay for bad luck.Research Findings/InsightsWe find that half of our sample firms have a friendly compensation committee, defined as the majority of the committee members having at least two social ties with executives. For firms with a friendly compensation committee, executives tend to be rewarded for good luck but not be penalized for bad luck, which indicates the presence of pay‐for‐luck asymmetry. For firms without a friendly compensation committee, their executive compensation is not associated with good luck or bad luck.Theoretical/Academic ImplicationsThe higher homophily due to social ties between compensation committee members and executives induces the committee to be more mentally close to or loosen the monitoring intensity over executives, and to be less likely to make an unfavorable design of compensation toward executives in the presence of bad luck. We complement existing studies by clearly demonstrating the channel through which executives influence the committee members. We also highlight the decisive role of the compensation committee in examining pay‐for‐luck asymmetry research issues.Practitioner/Policy ImplicationsOur findings inform practitioners that social ties between compensation committee members and executives may impair the monitoring intensity of the committee, and hence, regulators should take measures to mandate or at least encourage firms to provide social ties information.https://www.youtube.com/watch?v=UL9iGjERnRo&feature=youtu.be