Excess Compensation Research Articles

Optimal Conservation Programs, Asymmetric Information and the Role of Fixed Costs

An increasing number of environmental protection programs offers financial compensation to farmers in exchange for conservation services. Incentive-compatible contracts can be designed to mitigate excess compensation, but the extant literature suggests that outcomes are always second-best so that other instruments (such as conservation auctions) may be preferred. We argue that the claim regarding the first-best solution never being incentive-compatible is correct if all conservation costs are variable in nature; if there are fixed costs too, the first-best compensation scheme may be incentive-compatible after all. Given the relevance of fixed costs in conservation issues, we conclude that incentive-compatible contracts should be given a second chance as a policy measure to induce conservation.

Recent Improvements in Corporate Governance through Executive Compensation Reform

There have been a lot of criticism on excessive executive compensation paid to high ranking corporate executives in poorly performed financial institutions amid recent financial crisis and global economic crisis. These criticisms can be tracked to Enron scandals in early stage of this century. In order to establish reasonable executive compensation system, U.S. has utilized SEC disclosure rules, IRS tax code and SOX clawback provision, however, these regulatory methods have revealed their inherent limitations in regulating compensation system effectively. From this perspective, many critics have stressed that there should be more fundamental reform methods, such as director reform and the adoption of Say-on-Pay system.In the same context, EESA and ARRA implemented corporate governance and executive compensation provisions in order to effectively regulated U.S. companies' compensation manipulation. The focus on this area is placed on the corporate governance reform in which corporate governance problems, including executive compensation, might be more effectively cured through this reform methods.Recent debates on this issue provide us with useful implications. As widely recognized, Korean compensation system does not mandate detailed compensation disclosure system regarding corporate executives/directors. Fair and transparent compensation system is essential elements in order to improve shareholders' and investors' value. Although corporate executives have rejected such a disclosure system on the ground of the protection of private information, we should note that these information be essential for investors as an important investment information.Furthermore, we should implement certain regulatory method to curtail influences by controlling shareholders and CEO on compensation setting process. Under the current provision of KCC, director compensation must be approved by shareholders in annual shareholder meeting. However, in practice, the direction of a shareholder meeting can be influenced by controlling shareholders. From this perspective, current reforming efforts of U.S. and Europena Countries provide us with useful implications.

Fraud Versus Ethics: The Case Of The Backdating Of Stock Options

During the past five years, the Securities and Exchange Commission (SEC) has investigated over 140 companies for their practices of backdating the grant dates of employee stock options (ESOs), and has cited a number of these companies for their part in this behavior that has led to huge financial losses to corporate stockholders. The practice of backdating stock options grant dates is not necessarily illegal, but there may be some ethical issues involved with respect to the firms implicated in the acts. Options backdating may arise, not only because of clerical errors, lax record keeping, or internal control system failure, but also because of the intentional manipulation of corporate reports and documentation. In cases where top executives deliberately manipulate stock options grant dates to further bloat their excessive compensation packages above the amounts that directors approved for them, the firm and its officers/directors may be liable for violations of SEC disclosure requirements, generally accepted accounting principles (GAAP), and tax laws, and if these actions occurred after the passage of the Sarbanes-Oxley Act of 2002, there could be severe penalties imposed on the firm and on the individuals involved.

Legal and accounting issues of manipulating the timing of stock option grants

PurposeMany corporate managers, with the aid of the board of directors, discovered that they could provide themselves with guaranteed or excessive compensation by manipulating the terms of stock option grants that were included in their compensation packages. This paper seeks to examine the legal, tax, and accounting issues that have evolved because of these suspect illegal activities.Design/methodology/approachThe author presents the theory behind performance‐based compensation that is the basis for employee stock option grants. The author then examines regulations, judicial theory, and court cases to determine the current legal status of backdating, spring loading, or bullet dodging of executive stock option grants.FindingsThe current legal environment has made it difficult for executives to continue the practice of manipulating stock option grants without falling under the ire of regulators and shareholders. However, a question remains whether executives that manipulated stock option grants in the past will be found criminally liable for their acts.Practical implicationsThe paper's review of the discourse on the legality of corporate executives enhancing their compensation packages shows the complexity of detecting and regulating this type of suspect activity.Originality/valueThis paper presents a contemporaneous discussion and data on legal and regulatory changes that resulted from management malfeasance of executive compensation.

Executive stock options and corporate report disclosures: managerial power and outrage costs perspectives

This study examines annual report disclosures of executive stock option(s) (ESOs) values by Australian listed companies for periods ending 2002 and 2003. This period was a 'one-time' window of opportunity in which the Australian regulations for disclosing option values in financial statements were unclear, thus allowing preparers some latitude in the application of pricing regimes for the purpose of disclosure. The study further investigates the relation between reported option values and factors known to influence option valuations. Given the growing public concerns regarding director's excessive compensation schemes and the governance of enterprises generally, this study provides evidence that directors have incentives to underreport the value of executive options. The evidence suggests that not only do directors have the power to award themselves excessive compensation, but also the mechanisms to camouflage excessive remuneration to avoid stakeholder dissent. This is the first known Australian study that examines option valuations in the context of managerial power and outrage cost theories.

Chief Financial Officers on Their Company’s Board of Directors: An Examination of Financial Reporting Quality and Entrenchment

Considerable prior research investigates whether the extent of insider presence on corporate boards is detrimental. However, the majority of past research treats all inside directors as a homogenous group. This study considers that issue in the context of chief financial officers (CFO) serving on their own company's board. Our research is important because individuals in different executive roles bring different skills and knowledge to board interactions, highlighting the potential for differential contributions. As prior research does not specifically distinguish CFOs from other board insiders, the potential benefits of knowledge sharing due to increased communication with other board members may have been masked. Specifically, the CFO is directly responsible for the quality of the financial reporting process and can therefore be associated with specific outcome measures. Our results show that the percentage of CFOs serving on their own boards is not large, likely due to the perspective (consistent with agency theory and reflected in independence guidelines) that company insiders on boards could promote their own best interest at the expense of shareholders. Contrary to this perception, we find that companies whose CFO has a seat on the board are associated with higher financial reporting quality (i.e., a lower likelihood of reporting a material weaknesses in internal controls or having a financial restatement, and better accruals quality). Yet, we also find potential drawbacks in that CFOs with a board seat tend to have higher excess compensation and lower likelihood of termination following poor performance, signaling greater entrenchment. While our results provide information to companies considering appointing the CFO to the board, both costs and benefits are demonstrated, and thus we conclude that each board should consider this decision based on its own circumstances and composition.

Stock Repurchases and TARP in the Financial Industry

In this paper, we examine the relation between the inadequate levels of capital during the recent financial crisis and the shareholder dividend and stock repurchase activities in the banking industry. In 2008, the Treasury Department initiated a bailout of the banking industry through the Troubled Asset Relief Program (TARP). Over the years leading up to this bailout, 2004-2007, shareholder payout activity increased dramatically. We first explore the efficient capital market motivations for the share repurchases of our sample of banking firms. Consistent with studies in the non-financial industry we find some support for the excess cash, undervaluation, and stock compensation hypotheses. However, we observe a structural shift in the model in 2007 that is inconsistent with efficient capital market behavior. Next, we explore the relation between firms that accepted funds from the Capital Purchase Program (CPP), the largest program within TARP, and the increasing levels of shareholder payouts. We find that firms that accepted CPP funds returned a higher proportion of their available capital to shareholders in the periods leading up to the financial crisis than firms that did not accept CPP funding. Finally, we document the improvement in for the capital adequacy of the CPP participant firms, and we provide anecdotal evidence on the impact of CPP on the largest four participating banks.

Corporate governance, stakeholder power, and executive compensation

Excessive executive compensation is one of the prevailing topics in the business press. The "managerial power approach", which is at the center of numerous publications of Bebchuk and Fried (Pay without performance: the unfulfilled promise of executive compensation, Harvard University Press, Cambridge, 2004) and Bebchuk and Grinstein (Oxford Rev Econ Policy 21:283---303, 2005), claims that chief executive officers (CEOs) corrupt the pay-setting process by influencing the board of directors. This paper analyzes the role of the board of directors in the pay-setting process for the CEO's compensation schedule in an optimal contracting framework. The board's role in our model is to provide information about the CEO's ability to the shareholders. We assume that the CEO and other stakeholders, such as employees' representatives, can influence the board to act in their respective favor when reporting to the shareholders. We show how the CEO's influence on the board alters the optimal contract and the CEO's incentives. Most interestingly, the influence of an interest group on the board can be the reason for high pay schedules, even though that was not the objective of the interest group.

Fairness Is an Emergent Self-Organized Property of the Free Market for Labor

The excessive compensation packages of CEOs of U.S. corporations in recent years have brought to the foreground the issue of fairness in economics. The conventional wisdom is that the free market for labor, which determines the pay packages, cares only about efficiency and not fairness. We present an alternative theory that shows that an ideal free market environment also promotes fairness, as an emergent property resulting from the self-organizing market dynamics. Even though an individual employee may care only about his or her salary and no one else’s, the collective actions of all the employees, combined with the profit maximizing actions of all the companies, in a free market environment under budgetary constraints, lead towards a more fair allocation of wages, guided by Adam Smith’s invisible hand of self-organization. By exploring deep connections with statistical thermodynamics, we show that entropy is the appropriate measure of fairness in a free market environment which is maximized at equilibrium to yield the lognormal distribution of salaries as the fairest inequality of pay in an organization under ideal conditions.

Compensation of owner managers in Canadian family‐owned businesses: expropriation of minority shareholders

AbstractThe aim of this paper is to test the hypothesis of owner managers expropriating minority shareholders by receiving excessive compensation. Using a sample of Canadian family firms, we found that when there is divergence between voting rights and cash flow rights, owner CEOs receive higher compensation than non‐owners. The higher the divergence between voting rights and cash flow rights, the higher the excess compensation. Further analysis shows that only poorly governed firms are affected by the expropriation problem. Copyright © 2010 ASAC. Published by John Wiley & Sons, Ltd.

Show Us the Money: Investors Deserve Clear and Comprehensible Pay Disclosures

Mandatory filings with the SEC, the federal agency charged with protecting investor interests, are often hard to understand. They are long and dense, and filled with financial jargon that even experts can have difficulty deciphering. This is a problem for shareholders as well as the broader economy. Regulators, policymakers, and the public at large have a stake in knowing whether corporate pay practices create incentives that are conducive to real and sustainable economic growth.Congress is tackling this disclosure deficit as part of its financial regulatory reform initiative. The bill passed by Congress includes helpful language directing the Securities and Exchange Commission to clarify disclosure rules on CEO compensation. Regulators should take this opportunity to ensure that disclosures to investors follow two principles:1. Show us the money. Regulators should require companies to display executive compensation information in a standardized graphical format that allows for easy evaluation by ordinary investors. The information should allow shareholders to quickly gauge whether an executive’s performance warranted receipt of his or her performance-based pay, and whether the compensation awarded is commensurate with the value added to a company.2. Make sure we understand. Regulators should in turn be required to evaluate disclosures for comprehensibility. SEC officials should write disclosure rules that focus on the understanding that readers take away, rather than merely focusing on the information companies provide. One approach is to apply a “reasonable person” test to compensation disclosures and require revisions if company reports are not easily comprehensible.Corporate adherence to the twin principles of simplicity and comprehensibility will protect shareholders and empower investors to police excessive executive compensation.

Giving a Shareholders a Say on Pay: A Measure Leading to Better Governance

The arguments pros and cons a non-binding vote by shareholders on executive compensation do not readily tip the balance in one direction or the other. The sense of unfairness and the frustration with some patent cases of excessive compensation have generated a good deal of sympathy for more direct and vigorous measures to curb extravagant compensation practices. Nevertheless, boards of directors fully responsible and accountable for the governance of publicly traded corporations do form the cornerstone of our system of corporate governance.

CEO Compensation and Performance in Family Firms

This study examines CEO compensation in family firms, with a particular focus on the effects exerted by governance characteristics such as ownership concentration, wedge between voting and cash-flow rights rights, and the presence of shareholder agreements. On a sample of Italian listed companies over the period 1998-2002, we provide empirical evidence that family firms pay CEOs systematically more then other firms, and that the ownership structure exerts a significant effect on CEO compensation. In family firms, CEO pay is indeed positively affected by low ownership concentration, as well as a low wedge between voting and cash flow rights. Moreover, the presence of shareholders agreements has a moderating role on the level of CEO compensation. These effects are more pronounced in family than in non-family firms.The analysis of the relationship between excess compensation and future firm performance reveals that the higher compensation granted to the CEO by family firms is related to worse stock and accounting returns and could therefore be interpreted as a form of rent extraction. This result holds only for lower degrees of ownership concentration, higher wedge and in the absence of shareholders’ agreements, and supports the hypothesis that the prevalent agency conflict within Italian-listed family firms is between family owners and minority shareholders, instead of between shareholders and managers. The higher compensation granted to the CEO could be interpreted as the premium for the loyalty of the CEO to the family and for allowing the family to extract private benefits of control.

Does the Free Market for Labor Care about Fairness?

The excessive compensation packages of CEOs of U.S. corporations in recent years have brought the issue of fairness to the foreground in economics. The conventional wisdom is that the free market for labor, which determines the pay packages, cares only about efficiency and not fairness. We present an alternative theory that shows that an ideal free market environment also promotes fairness, as an emergent property resulting from the self-organizing market dynamics. Even though an individual employee may care only about his or her salary and no one else’s, the collective actions of all the employees, combined with the profit maximizing actions of all the companies, in a free market environment, lead towards, guided by Adam Smith’s invisible hand of self-organization, a more fair allocation of wages. By exploring deep connections with statistical thermodynamics, we show that entropy is the appropriate measure of fairness in a free market environment which is maximized at equilibrium to yield the lognormal distribution of salaries as the fairest inequality of pay in an organization under ideal conditions.

Does a Salary Cap Really Work?

Limiting executive compensation through a salary cap has emerged as one of the latest global governance initiatives. We investigate the effectiveness of a form of an executive salary cap system and find that only firms with a high level of effective external monitors set their salary cap significantly sensitive to firm performance (cap-performance sensitivity). The difference between the salary cap and actual pay (the gap) varies by the level of monitoring. Therefore, the existence of an efficient external monitoring system may be critical for a salary cap system to be successful. We also find evidence suggesting that incentive structures created by a salary cap may properly work only in the presence of an effective external monitoring system by improving better pay-performance sensitivity. Since it is almost impossible to determine an optimal level for a salary cap, we conclude that improving firm-level governance may be more important to thwart highly excessive compensation than legalizing the upper limit.

Richard Posner's economics of organization

Abstract:Posner's economics of organization yields an unconventional view that private organizations operating in the market, the publicly held US business corporation, despite the profit motive, ends up being inefficient, paying excessive compensation to CEOs, while some public organizations, the US federal judicial system (and the judicial system of Continental Europe and Japan), despite the insulation of judges from most of incentives and the near complete autonomy afforded to them, works reasonably well. Unfortunately, Posner does not state clearly the criteria by which he judges one ‘excessive’ and the others ‘works reasonably well’, nor does he explain well why professional norms of judges that play a crucial role in public organizations are not a factor in business organizations.

Philanthropy, Evaluation, Accountability, and Social Change

All foundations know the accountability checklist. Avoid self-dealing. File your 990 on time. Pay the excise tax. Be transparent about your grant processes. Avoid excessive compensation. Avoid luxury perks for board members. Commit to board development. Do not bully nonprofits. Keep administrative costs low. Have HR establish annual performance reviews for individual staff members. Benchmark internal processes against those of other foundations. Seek cause-and-effect attribution regarding quantitative outcome targets for grants.

Board compensation and ownership structure: empirical evidence for Italian listed companies

This paper investigates the relationships among corporate ownership, the level of board compensation, and firms’ future performance within Italian listed companies. Board compensation could be related to corporate ownership characteristics, like the type of controlling shareholder, ownership concentration, the separation between cash flow and voting rights, and the presence of shareholders’ agreements. The evidence of high levels of board compensation associated with certain governance characteristics could signal, in a principal-agent framework, rent extraction by entrenched managers or by controlling shareholders versus minority shareholders; high board compensation, however, could be related to the need to hire directors with higher professional standing and also to the desire to create a network with other companies through the enlargement of the board, according to a social network view. In this paper we disentangle this issue showing the relationship between excess board compensation and future performance: examining firms listed on the Milan Stock Exchange over the period 1995–2002, we show that board compensation is linked to many governance characteristics, but excess compensation is never positively related to future performance. For founder family firms, in particular, high board compensation is associated with (a) smaller board size; (b) higher proportion of family members on the board; (c) lower future performance. The whole evidence therefore doesn’t support the hypothesis suggested by the social network view, but is consistent with a rent extraction hypothesis. These results could add new empirical evidence to the recent debate on the need for global remuneration reform. According to our results, some control mechanism and an increase in transparency of executive compensation schemes could be appropriate.

A power efficient continuous time ΔΣ modulator with 15 MHz bandwidth and 70 dB dynamic range

We present architectural and circuit details of a high speed continuous-time ΔΣ modulator operating at a sampling rate of 300 Msps in a 0.18μm CMOS process. A large quantizer range of 2.4 V (peak-to-peak differential) reduces thermal noise requirements of the loop filter and matching requirements in the flash ADC. Active-RC techniques are used in the loop filter, and excess loop delay compensation circuitry mitigates the effect of finite bandwidth of the opamps and feedback DAC delay. Thanks to the design techniques employed, the modulator achieves a peak SNR of 67.2 dB in a 15 MHz bandwidth (OSR = 10) while dissipating 20.7 mW from a 1.8 V supply.

Religion and Corporate (Mis)Behavior

We provide evidence that religiosity deters unethical corporate behavior. Firms headquartered in highly religious counties are less likely to backdate options, grant excessive compensation packages to their managers, practice aggressive earnings management, and be the target of class action securities lawsuits. Our results are strongest for locations with greater concentrations of Protestants, and especially of Mainline Protestants. Finally, we find that a regulatory change designed to curb option backdating has had a much larger effect in less religious counties, suggesting that in this case regulation and religion are substitute mechanisms for monitoring and control.