Investor myopia and CEO compensation

Abstract

We examine the impact of investor horizon on the design of compensation contracts. Using a sample of IPO firms, we contrast long-term incentives provided to CEOs across firms with venture capital (VC) investors who are myopic and other firms where shareholders have relatively longer investment horizons. We construct several new measures of long-term incentives that capture the horizon of the compensation. We find that VC-backed firms reduce long-term incentives when the lockup expires whereas non-VC-backed firms increase their long-term incentives to mitigate the high level of managerial myopia in the period following the IPO. Specifically VC backed firms grant a greater proportion of annual compensation in the form of cash and vested equity-based compensation, the duration of the compensation is lower, and the proportion of vested options to total option holdings is higher in the lockup expiration year. We also explore the long-run consequences of myopic contracts. We find that the long-run (short-run) stock performance is lower (higher) when contracts are myopic consistent with myopic managers maximizing short run performance at the cost of long run performance.