Bank Executive Compensation Research Articles

The role of inside debt in banks’ M&A choices: wealth expropriation or conflict resolution?

PurposeThis study investigates the impact of bank CEOs’ inside debt on shareholder benefits in the context of bank mergers and acquisitions (M&A) before the 2008–2009 financial crisis.Design/methodology/approachEmploying an event-study methodology, this analysis delves into market reactions to bank M&A announcements during 2006–2007, encompassing 105 M&As by 79 public commercial banks. This era witnessed heightened risk-taking behavior on the verge of the financial crisis. We explore the relation between relative inside debt and market abnormal returns at M&A announcements and the association between relative inside debt and cash payment preferences in M&As.FindingsEvidence suggests that M&A announcements from banks where acquiring CEOs hold a substantial inside debt experience favorable stock market reaction, particularly for smaller banks. Additionally, banks with elevated CEO inside debt tend to favor cash as a payment mode for M&As.Research limitations/implicationsOne limitation of this study is the short period of data availability. The data used in this study covers only 2006 and 2007, the periods marked by notable risk-taking activities on the verge of the financial crisis. Although this period is perfectly suitable for our investigation, given the prevalence of conflicts between equity and debt holders, it is essential to acknowledge that our findings may not capture changes or trends over time. Nevertheless, the results offer valuable insights into the factors that influence the behavior of the studied population. Future research could employ a longitudinal design to address this limitation and gain a more comprehensive understanding of the dynamics over extended periods.Practical implicationsOur study has significant implications for businesses and policymakers as it provides insights into the factors contributing to financial crises and how compensation mechanisms can be used to moderate bank risk-taking. We propose that CEO inside debt compensation presents a plausible mechanism that boards of directors can incorporate into bank executive compensation contracts. By doing so, they can promote value-enhancing investments and moderate excessive risk-taking, thereby safeguarding the financial stability of individual banks and overall financial system.Originality/valueOur study sheds light on the beneficial role of bank CEO inside debt for shareholders, contributing empirical backing to the conflict resolution viewpoint in the discourse on wealth appropriation. From a regulatory stance, our findings advocate for the inclusion of bank CEO inside debt in executive remuneration agreements. Such a strategy can empower boards of directors to mitigate undue risk and enhance shareholder value in M&As, safeguarding both individual bank and broader financial system stability.

What drives risk-taking incentives embedded in bank executive compensation? Some international evidence

This paper analyzes the country determinants of risk-taking incentives embedded in bank executive compensation using hand-collected international panel data on 135 publicly-traded banks in 26 countries. We exploit time-series changes in investor protection within a country and confirm that stronger protection leads to a higher vega. Moreover, the positive effect on vega is higher in countries where stronger bank competition and more extensive safety nets increase bank shareholders' risk-taking incentives. Our analysis controls for changes in bank regulation, systemic banking crises, and government bailouts. The results are robust to alternative specification models, alternative proxies for country determinants, and remain when we apply a more traditional cross-sectional analysis.

The effect of earnings management on external loan price: evidence from China

PurposeThis paper aims to explore how external creditors assess firms’ financial aggressiveness in China.Design/methodology/approachUsing bank loan-specific data, the authors investigate whether firms exhibit greater costs of bank loans when they engage in earnings manipulation and whether this association changes when restrictions on lenders’ compensation are promulgated.FindingsThe authors find compelling evidence that bank executives charge higher premiums on firms with accrual earnings management to compensate for additional financial risk but do not charge extra loan prices for firms conducting real earnings management (REM). The authors also find that the enactment of Robust Bank Executive Compensation (REBC) enhances the vigilance of bank executives on the overall client firms’ earnings manipulation, with the exception of REM conducted by state-owned firms.Originality/valueThe authors extend the current literature on the cost of external loans by focusing on bank loans and the influence of REBC. This study offers implications for policymakers in China and other emerging economics to control loan default and financial risk.

The New EU Remuneration Policy as Good but Not Desired Corporate Governance Mechanism and the Role of CSR Disclosing

The recent global financial crisis (GFC) has put under scrutiny the sound remuneration policy and consequently the incentives design that influences risk-taking by managers in the banking industry to be a politically charged variable. In particular, this paper analyzes the new EU remuneration regulation of bank executive compensation and the role of corporate social responsibility (CSR) on this. Though all the EU efforts put into remuneration practices suggest commitment in aligning risk, performance, and compensation and aim at easing bank managers’ risk appetite for variable payments, the new regulation might drive unintended consequences, creating adverse selection problems in EU banks and hidden compensation habits that lower transparency, thus threatening financial system’s sustainability. Focusing on European Banking Authority (EBA) reports spanning from 2010 to 2017, the data reveals increasing values on the fixed component, less involvement in bank discipline by economic agents, and a potential for accounting-based incentives compensation that might reinforce attitudes towards building countercyclical buffers and smoothing earnings. As well, the new regulation might reduce the number of best-performing bank managers in the Eurozone, since “bad risks” are accepted to the detriment of “good risks,” which might stimulate their migration. In contrast, CSR investment is supposed to offset such practices and incentives that harm EU financial stability. As a result, policymakers, banks, and regulators should promote the transparency of CSR disclosure.

Effect of Company Performance on Sharia Commercial Bank Executive Compensation in Indonesia

After the disclosure of data from companies, research on executive compensation began to develop. Several studies on executive compensation in banking found that the determination of compensation is positively related to company performance. This research aims to determine the relationship between company performance and executive compensation of Islamic Commercial Bank’s in Indonesia. Company performance is proxied by Return on Assets (ROA). This study uses a sample of Islamic Commercial Banks because they have very good performance growth and currently only have a market share of 6.18% compared to the national financial market so they still have the potential to experience growth. Furthermore, sample used 14 Islamic commercial banks registered with the OJK during 2014-2019. The research method used panel data regression analysis. The results showed that the performance of Islamic Commercial Bank’s has an effect on executive compensation. Islamic Commercial Bank Executives have an obligation to improve company performance (ROA) because it affects the compensation received by the executive.

Shareholder protection and bank executive compensation after the global financial crisis

We use a hand-collected international database to analyze the change in the risk-taking incentives embedded in bank executive compensation after the onset of the global financial crisis. Our results reveal a reduction in both the risk sensitivity of stock option grants (vega) and total and cash pay-risk sensitivities in countries suffering systemic banking crises. This reduction is greater in countries with strong shareholder protection, especially in banks with good corporate governance, solvent banks, and banks that suffered a reduction in their specific investment opportunity set. The regressions control for government intervention, banking development, and crisis intensity. Our results confirm that the contracting hypothesis is more relevant in countries with stronger shareholder protection, and provide support for measures improving shareholder rights in the approval of bank executive compensation.

European banks’ executive remuneration under the new European Union regulation

We review how the new European regulation of bank executive compensation could affect the future of banking in Europe. Although there is no conclusive empirical evidence on the relation between bank executive remuneration and the financial crisis, authorities have intensively regulated the compensation of bank managers to eliminate risk-taking incentives in the financial industry. However, the new regulation could have unintended consequences of creating an adverse selection problem at European banks, reducing the number of best-performing managers available for European banks, and motivating an excessive increase in fixed remuneration over total remuneration, altering the way incentive systems work.

Effectiveness and (In)Efficiencies of Compensation Regulation: Evidence from the EU Banker Bonus Cap

We investigate the (unintended) effects of bank executive compensation regulation. Capping the share of variable compensation spurred average turnover rates driven by CEOs at poorly performing banks. Other than that, banks' responses to raise fixed compensation sufficed to retain the vast majority of non-CEO executives and those at well performing banks. We fail to find evidence that banks with executives that are more affected by the bonus cap became less risky. In fact, numerous results indicate an increase of risk, even in its systemic dimension according to selected measures. The return component of bank performance appears to be unaffected by the bonus cap. Risk hikes are consistent with an insurance effect associated with raised the increase in fixed compensation of executives. The ability of the policy to enhance financial stability is therefore doubtful.

Shareholder wealth responses to European legislation on bank executive compensation

This paper uses an event study approach to investigate the shareholder wealth responses to European legislation on bank executive compensation. Using a sample of 124 banks over 2009–2010 and over 20 legislative and related events, we find that in early stages bank shareholders react positively to broad discussion at the EU level on executive pay. When plans to regulate the pay process are considered, however, this results in a negative stockholder reaction. We also find that large bank shareholders are most affected by remuneration policy.

The Effect of Remuneration Committee Independence on the Pay–Performance Relationship: Evidence from the Banking Industry in Poland

This article seeks to ascertain the impact of remuneration committee independence on the level of bank executive compensation in the context of the presence of a large blockholder, based on unique hand-collected panel data for all banks listed on the Polish stock exchange between 2005 and 2013. The recent postcrisis European Commission recommendation requiring banks to have independent board members on their remuneration committees does not necessarily reduce the level of executive pay or make incentive contracts more efficient. The findings show that executives of banks with a controlling shareholder and a greater number of independent board members on their remuneration committees are paid above the average for the sample. This excessive executive compensation may be interpreted as evidence of a violation of the rights of minority shareholders and depositors. The findings are consistent with managerial power theory.

Bank Fundamentals, Executive Compensation and Public Perception of Banks in Australia

Public perception of banks in Australia is relatively poor compared to firms in other major services sectors. This study explores a number of potential sources of negative public opinion. We find that bank profits are similar to firms in other sectors after adjustment for firm size. Average bank executive remuneration as a proportion of total staff costs are also lower than those in other sectors. Finally, Australian banks not only pay a higher average effective tax rate than their counterparts in OECD countries but are also closest to their statutory corporate tax rates. Our findings therefore suggest that poor public perception of banks is based on the flawed claims of generating excessive profits, overpaying bank executives, and underpaying taxes and is not justified.

Executive compensation and securitization: pre-and post-crisis

Purpose – The purpose of this paper is to study bank executive compensation and securitization, two important strategic developments in finance that are central to the debate on the cause of the crisis. Design/methodology/approach – We study the relationship between securitization and executive pay in a sample of US banks from 2001 to 2010, using a series of multivariate regression models to test our hypotheses. Findings – Bank Chief Executive Officer (CEO) pay exhibits a positive pay-for-performance relationship. Since the crisis, this relationship is weakened. For banks that securitize, we find that prior to the crisis, higher securitization activity led to higher CEO compensation levels. While we do not find that securitization is related to bank CEO pay gap (the difference between CEO and the next-highest paid bank executive), we do see that bank ratings are a factor in pay gap and compensation level. Research limitations/implications – Bank regulatory ratings influence the relationship between compensation and securitization. Also, the relationship differs pre- and post-crisis. Originality/value – Our study is unique for several reasons. First, we look at the relationship between compensation and securitization over a time period that includes the recent financial crisis. Second, we include an analysis of pay gap. Third, we include bank regulatory ratings, which are proprietary and therefore not available for use in many banking studies.

Bank executive compensation structure, risk taking and the financial crisis

This paper investigates (1) how the composition of executive compensation is related to a bank’s incentive to take excessive risk, (2) whether executive compensation in larger banks, especially the too-big-to-fail (TBTF) banks, induces more severe moral hazard behavior, and (3) how the relation between bank executive compensation and risk taking changes before and during the recent financial crisis. We find that bank risk measured by the Z-score and the volatility of stock returns increases with both the percentages of short-term and long-term incentive compensation. However, greater proportion of incentive pay decreases the likelihood for a bank to become a problem or failed institution. This result holds for the periods before and during the recent financial crisis. The distress-mitigating effects of incentive compensation are further confirmed by our finding that both the proportions of bonus and long-term incentives are positively related to bank valuation and performance. Interestingly, we find that TBTF banks experience greater risk taking (lower Z-score) and are more likely to be in financial distress than smaller banks. However, greater incentive compensation in TBTF banks helps reduce their insolvency risk relative to smaller institutions.

Getting Incentives Right: Is Deferred Bank Executive Compensation Sufficient?

In the wake of the global financial crisis, attention has often focused on whether incentives generated by bank executives’ compensation programs led to excessive risk-taking. Post-crisis, compensation reform proposals have taken broadly three approaches: long-term deferred equity incentive compensation, mandatory bonus clawbacks upon accounting restatements and financial losses, and debt-based compensation. In earlier articles we recommended the following compensation structure for bank executives: incentive compensation should consist only of restricted stock and restricted stock options – restricted in the sense that the executive cannot sell the shares or exercise the options for two to four years after his or her last day in office. We contend that this incentive compensation package, which we term the Restricted Equity proposal, will focus bank managers’ attention on the long-run and discourage them from investing in high-risk, value-destroying projects. Equity based incentive programs such as our proposal may lose effectiveness in motivating managers to enhance shareholder value as a bank’s equity value approaches zero. As a consequence, some commentators have called for pay packages linked to bank debt. We contend, however, that the more appropriate approach is to retain equity-based incentive pay and to reform bank capital structure to reduce the probability of a tail event, and hence insolvency. We advance two approaches, not necessarily exclusive, that coupled with the Restricted Equity proposal, we maintain, would incentivize bank executives to not take on projects of excessive risk: meaningful higher and simpler capital requirements and mandatory issuance of contingent convertible capital – debt that converts to equity under specified adverse states of the world. Because the optimal capital level is unknown, we further advocate facilitating regulatory diversity within the international financial regulatory regime, to generate information concerning what level and form of capital works best, which would improve the quality of decision-making and the resiliency of the global financial system.

Financial crisis and bank executive incentive compensation

We study the executive compensation structure in 14 of the largest U.S. financial institutions during 2000–2008. We focus on the CEO's purchases and sales of their bank's stock, their salary and bonus, and the capital losses these CEOs incur due to the dramatic share price declines in 2008. We consider three measures of risk-taking by these banks. Our results are mostly consistent with and supportive of the findings of Bebchuk, Cohen and Spamann (2010), that is, managerial incentives matter — incentives generated by executive compensation programs are correlated with excessive risk-taking by banks. Also, our results are generally not supportive of the conclusions of Fahlenbrach and Stulz (2011) that the poor performance of banks during the crisis was the result of unforeseen risk. We recommend that bank executive incentive compensation should only consist of restricted stock and restricted stock options — restricted in the sense that the executive cannot sell the shares or exercise the options for two to four years after their last day in office. The above incentive compensation proposal logically leads to a complementary proposal regarding a bank's capital structure, namely, banks should be financed with considerably more equity than they are being financed currently.

How (if any) Uniform Corporate Governance Measures Matter for Executive Compensation Practice at Closely-Held Banks

The aim of this paper is to examine the executive compensation practices in closely-held financial institutions where the corporate governance conflict lies between the blockholder on one hand and minority shareholders and depositors on the other. We study the determinants of the level of bank's executive compensation based on the example of Poland. In particular, we investigate the impact of corporate governance measures. We find that that most of the corporate governance measures are related to the level of executives’ compensation, among them board independence and ownership concentration. Compensation committee as a new structure of bank governance in Poland, do not play an important role in setting executive compensation in banks. We show that origin of the bank's parent company matters as banks tend to rely on the corporate governance standards from the home country of the financial conglomerate. Surprisingly, the presence of private pensions among minority investors does not contribute to curbing executives’ pay. Our findings also reveal that the executive’s characteristics determine to a large extent the executive pay at banks. The results show that the impact of some executive characteristics are stronger than any board characteristics what calls for improvement the internal corporate governance practices.

Is the Independence of Compensation Committee a Substance or a Symbol in the Closely Held Financial Institutions?

The view that independence of compensation committee is important to promote shareholders interests has been reflected in most of the local corporate governance codes. Since the onset of the financial crisis from 2007-2009 the rules entered into the mandatory provisions of law for banks, despite the fact that the results of empirical research are not stable. The aim of the paper is to ascertain the impact of compensation committee independence on the level of bank's executive compensation based on the hand-collected data from the bank's financial accounts from Poland for the period 2005-2011. The empirical results show that regulation obligating to have independent board members on the compensation committee may not reduce level of pay or achieve efficiencies in incentive contract. The findings show that bank's executive remuneration is linked to bank's performance. However, the results also reveal that executives at banks where there is a greater number of independent board members in the compensation committee are paid above the market. The excessive executive compensation may be evidence of minority shareholder and depositors’ violation. Hence, the ratio of independent board members on the compensation committee cannot be attributed to the high quality corporate governance standards.

Uniform regulation of executive pay at banks: Will it make a difference? The case study of Poland

The executive remuneration system in the financial sector requires significant improvements to increase disclosure and more closely converge shareholders’ and depositors’ interests. Executive remuneration practices have, therefore, been under review since the financial crisis of 2008. The purpose of the article is to examine how much the current practices of bank executive compensation in Poland differ from the recommendations issued by international organisations. The question is whether the new legal rules will have a significant impact on bank executive remuneration in Poland and will help solve corporate governance problem. The analyses based on the sample of listed banks show that new regulation effective as of 1 January 2012 is to force changes in the approach to executive remuneration in the banking sector. Firstly, banks will be obliged to adapt to the more rigorous requirements regarding disclosure of executive remuneration policy and its structure. Secondly, the long-term incentive programmes will become more important because of the need to defer a large part of the variable compensation and to use instruments other than cash. However, they may pursue a more conservative compensation policy. This could mean a further increase in basic salary, and it may limit sensitivity between pay and corporate performance and also increase fixed costs for banks. Ultimately, the new Polish regulation that refers almost exclusively to the variable component of executive remuneration will have negligible impact. This shows that uniform regulation regardless of a country's institutional framework may have adverse impact and fail to solve the original problem of corporate governance: the weak linkage between executive remuneration and corporate performance. The findings will be relevant for both academics and practitioners, in particular policy-makers.

Uniform Regulation of Executive Pay at Banks – Will it Make a Difference? Insight from Poland

The executive remuneration system in the financial sector requires significant improvements to increase disclosure and more closely converge shareholders’ and depositors’ interests. Executive remuneration practices have, therefore, been under review since the financial crisis of 2008. The purpose of the paper is to examine how much the current practices of bank executive compensation in Poland differ from the recommendations issued by international organizations and the new Polish regulation enforced by the EU Directive CRD III, and hence how they have to be modified to adjust to the new standards. The question is whether the new legal rules will have a significant impact on bank executive remuneration in Poland and will help solve corporate governance problems. The analyses based on the sample of listed banks show that new regulation effective as of 1 January 2012 is to force changes in the approach to executive remuneration in the banking sector. Firstly, banks will be obliged to adapt to the more rigorous requirements regarding disclosure of executive remuneration policy and its structure. Secondly, the long-term incentive programmes will become more important because of the need to defer a large part of the variable compensation and to use instruments other than cash. However, they may pursue a more conservative compensation policy. This could mean a further increase in basic salary, and it may limit sensitivity between pay and corporate performance and also increase fixed costs for banks. Ultimately, the new Polish regulation that refers almost exclusively to the variable component of executive remuneration will have negligible impact. This shows that uniform regulation regardless of a country’s institutional framework may have adverse impact and fail to solve the original problem of corporate governance: the weak linkage between executive remuneration and corporate performance.

The Impact of Executive Payment on Firm Performance of the Financial Enterprises in China

Using a panel of Chinese commercial banks over the 2001-2009 period, this study explores the relationship between executive pay and performance, as well as, the comparison of pay-performance sensitivity between managers and directors. Several methods were employed to estimate the relation, with control variables of size and ownership, based on alternative measures of performance. Our analyses revealed that the performance of non-performing loan ratios and ROE have significant effect on director’s compensation. On the contrary, no relation between bank performance and managers compensation was found, and neither any impact of compensation changes on performance. Moreover, according to our results the state control ownership can lower the pay-performance sensitivity. As a conclusion, this research supports that government regulations on bank performance rating and executive compensation are necessary.