Inside Debt Holdings Research Articles

CEO inside debt and industry specialist auditor

PurposeThis paper aims to examine the effect of executive compensation incentives, specifically CEO inside debt holdings, on the choice of industry specialist auditor.Design/methodology/approachHigh inside debt holdings are expected to constrain excessive managerial risk-taking and align the interests of managers and outside debtholders. The authors hypothesize that reduced debtholders’ expropriation concerns will decrease the demand for high audit quality, measured by industry specialization. The authors investigate a sample of US firms from 2006 to 2018 using OLS regression and use CEO relative leverage to proxy for CEO inside debt holdings. The authors conduct an additional two-stage least squares regression analysis to address potential endogeneity issues.FindingsThe paper finds that firms with higher levels of CEO inside debt tend not to appoint an auditor with industry specialization. This result is consistent with the notion that inside debt mitigates agency conflicts between managers and debtholders, reducing the demand for high-quality audits as a monitoring mechanism. The paper also finds that among firms which are excessively leveraged, those with higher levels of CEO inside debt tend to appoint an industry specialist auditor.Originality/valueThe findings contribute to the literature on agency cost and auditor choice by demonstrating that CEO inside debt has both substitutive and complementary effects on demand for industry specialist auditors.

Do CEO risk-reducing incentives affect operating leverage? Evidence from CEO inside debt holdings

Purpose The purpose of this paper is to investigate the relationship between CEOs' inside debt holdings (pension benefits and deferred compensation) and the operating leverage of the firms they manage, with the aim to examine whether CEO incentives play a role in corporate risk-taking. Design/methodology/approach The authors investigate the relation between CEO inside debt holdings (CIDH) (pension benefits and deferred compensation) and the operating leverage (DOL) of the firms they manage. Using a sample of 11,145 US firm-year observations over the period 2006–2017, the authors find a strong negative association between CIDH and DOL. Additional analyses reveal that the relationship between CIDH and DOL is more pronounced in firms with heightened agency issues, powerful CEOs and for CEOs with stronger professional networks. The results are robust to various sensitivity and endogeneity tests. Findings The authors find strong evidence confirming the expected negative association between CEO inside debt and DOL suggesting that firms with higher inside debt tend to maintain lower levels of operating leverage. These findings continue to hold with the alternative measure for the inside debt and operating leverage, and across a range of tests designed to rule out the possibility that the primary findings are in any way driven by potential endogeneity. In addition, the findings demonstrate that the presence of manager-shareholder agency conflicts can strengthen the inside debt–DOL relationship suggesting the strong role of inside debt in reducing firm risk. Research limitations/implications Findings in this paper have implications for design of compensation structures so that corporate boards can establish incentives as a tool for risk management. A limitation of this study is that it is focused on one market, i.e. US listed companies, so the findings may not be applicable on a global scale. Originality/value To the best of the authors’ knowledge, this is the first study that links firm-level management of operating leverage through design of CEO inside debt incentives (two obvious choices for risk-reduction at the CEOs’ disposal include reducing financial risk through reduction of firm leverage and reducing operating risk through reduction of operating leverage). While use of firm leverage as an instrument of choice has been explored in the past, use of operating leverage to achieve risk reduction when CEO possess high inside holding, has received very little attention.

CEO inside debt and downside risk: Evidence from internal and external environments

In this study, we investigate whether inside debt held by CEOs is associated with downside risk and also consider the impact of internal (CEOs' and firms' characteristics) and external (industry competition and macroeconomic uncertainty) factors on the connection to CEO inside debt, which is debt-like compensation and corporate downside risk. We find that CEOs who hold more inside debt reduce downside risk. However, the negative impact of inside debt holdings on downside risk is offset in firms managed by younger or male CEOs, whereas the ability of inside debt held by a CEO to decrease corporate downside risk is amplified in firms operated by overconfident CEOs. Moreover, this reduction effect occurs in firms of good quality (higher earnings, smaller size, lower leverage, higher cash surplus, higher excess returns, and higher profitability). Finally, we find that this effect is more pronounced for firms operating in a low-competition industry, facing low economic policy uncertainty, and low equity market volatility.

CEO performance‐based grants’ vesting provisions and debt contracts: Evidence from GAAP, Non‐GAAP and KPI metrics

AbstractWe examine the influence of CEOs’ equity and cash grants’ vesting provisions that are based on (i) accounting performance metrics prepared under US generally accepted principles (GAAP), (ii) non‐GAAP performance metrics and (iii) key performance indicators (KPIs) on debt contracts. We find that grants with vesting provisions based on GAAP metrics and KPIs lead to a lower cost of debt, a lower likelihood of collateral requirements and less restrictive covenant terms. In contrast, performance‐based grants with non‐GAAP vesting provisions lead to a higher cost of debt, a higher likelihood of collateral requirements and more restrictive covenant terms. Supplementary analyses reveal that our results are incremental to other debtholder‐friendly features in the CEO contracts, such as grants with debt‐related performance measures and CEOs’ inside debt holdings, and robust to alternative variable definitions and specifications. Overall, our results suggest that debtholders understand the differing incentives associated with GAAP, non‐GAAP and KPI‐based performance measures, and incorporate these differences into debt contracts.

Asset redeployability and CEO inside debt

AbstractUsing a large sample of US firms for the period 2006–2015, we investigate the relationship between asset redeployability (AR) and a Chief Executive Officer's (CEO) inside debt holdings (CID) (pension benefits and deferred compensation). We find a positive association between AR and CID. In addition, we also find that this relationship is stronger in firms that are more financially constrained and during times of economic uncertainty. Collectively, these findings suggest that asset market frictions captured by AR are better determinants of liquidation value than asset tangibility. Our results are robust to an array of sensitivity/robustness tests and endogeneity concerns.

Does Managerial Compensation Impact the Likelihood of Product Market Failures? Evidence from Inside Debt Holdings

Does Managerial Compensation Impact the Likelihood of Product Market Failures? Evidence from Inside Debt Holdings

CEO compensation and bank loan contracts

This paper studies the relationship between bank CEO inside debt holdings and banks’ syndicated loan decisions. Using a two-stage selection model, we find that banks with higher CEO inside debt holdings extend syndicated loans to safer borrowers and have a smaller number of lenders in the syndication; these loans have a lower spread, less restrictive covenant, and longer maturity. These results suggest higher bank screening efforts and lower risk-taking incentives associated with bank CEO inside debt. The findings are robust to potential endogeneity bias and simultaneity of various loan terms.

CEO inside debt holdings and credit ratings

In this paper we investigate the relationship between chief executive officer (CEO) inside debt holdings (pension benefits and deferred compensation) and long-term credit ratings. We provide evidence that firms with a higher level of inside debt holdings enjoy better credit ratings. Our results are robust to the use of alternative regression estimation and alternative measures of key variables. We employ instrumental variable–based two-stage least squares regression and instrumental variable regression estimation using heteroskedasticity-based instruments to mitigate the endogeneity concern. In addition, we employ propensity-matched sample and entropy balancing estimates to alleviate endogeneity concerns. Our cross-sectional analyses reveal that the relationship between CEO inside debt holdings and credit ratings is more pronounced in firms with a poor information environment, a weak monitoring mechanism, and powerful CEOs. Overall, findings from our study suggest that credit rating agencies evaluate CEO insider debt holdings positively in assessing the creditworthiness of a firm.

Does managerial compensation influence price efficiency?

We examine the effects of managerial compensation (i.e., inside debt holdings of chief executive officer, CEO) on price efficiency, proxied by the measures of stock price delay. Based on a sample of 2617 firm-year observations for the 2006–2017 period, we find that CEO inside debt holdings have a significant positive effect on price efficiency. Furthermore, we find that stock liquidity plays a critical role in the effect of inside debt on price efficiency. Moreover, our study underscores the importance of CEO characteristics for understanding the relationship between CEO inside debt holdings and price efficiency. Consistent with our expectation, additional analyses show that this positive association is stronger for firms managed by CEOs who are male, older, and have longer tenure. Our study deepens the understanding of how managerial compensation shapes managerial incentives and offers insights to policymakers interested in enhancing price efficiency in shaping managerial incentives.

CEO inside debt holdings and trade credit

AbstractThis study investigates the relationship between chief executive officer (CEO) inside debt holdings (pension benefits and deferred compensation) and use of supplier‐provided trade credit. We provide evidence that CEO inside debt holdings are negatively related to the use of trade credit. Our results are robust to the use of alternative regression estimation and alternative measures of key variables. We exploit the final enforcement of Section 409A of the Internal Revenue Code (IRC) as an exogenous shock to inside debt holdings. Our difference‐in‐difference regression analysis establishes a causal relationship. In addition, we provide evidence that our documented results are not driven by omitted variable bias. We also employ instrumental variable regression estimation using heteroskedasticity‐based instruments to mitigate the endogeneity concern. Our cross‐sectional analyses reveal that the relationship between CEO inside debt holdings and trade credit is more pronounced in firms with poor information environments and greater financing constraints. Overall, findings from our study suggest that CEO inside debt has important implications for the financing policy of the firm.

Managerial risk-reducing incentives and social and exchange capital

This study investigates the impact of managerial risk-reducing incentives on the firm's social and exchange capital. Using CEO inside debt holdings to proxy for the incentives of risk-averse managers, we find that CEOs with more inside debt holdings are likely to invest more in building social capital, which targets broader society and potentially offers anti-risk protection advantages, to shield the value of their inside debt. However, our results further show that managerial risk-reducing incentives have no impact on firms' exchange capital, suggesting the need to recognize the difference between social and exchange capital. These findings corroborate the view that CEOs invest in social capital as a risk management strategy. Furthermore, this paper presents an understanding of the role that institutional investors play in moderating the impact of managerial risk-reducing incentives on social capital. Our results suggest that institutional investors constrain CEOs that have greater inside debt incentives from investing in social capital. However, they are still willing to increase the investment in social capital for risk management purposes when firm risk is high.

CEO inside debt and the acquisition of private targets

AbstractWe find a strong positive association between the inside debt holdings (pension benefits and deferred compensation) of CEOs and announcement‐period abnormal returns (CARs) of acquiring firms bidding for private targets. In addition, gains to acquirers with high inside debt persist for at least 3 years post‐acquisition. Further analyses suggest that our results are largely driven by firms with lower levels of manager‐shareholder agency conflicts as proxied by higher transparency in firm activities, presence of a less powerful CEO, or presence of stronger monitoring. Our results are robust to an array of sensitivity tests.

Corporate social responsibility and inside debt: The long game

We examine the effect of CEO inside debt on corporate social responsibility (CSR). We document a positive relation between CEO inside debt and CSR. This positive relation is attenuated not only when firms face high risk, but also when firms have high short-term institutional ownership. Our evidence supports the view that CEOs with large inside debt holdings are more concerned about firm sustainability and, are therefore more likely to prefer CSR for long-term firm benefits, i.e., the long game. We also find that CSR and CEO inside debt jointly exert a significantly positive impact on long-run stock performance, particularly in the presence of a low level of short-term institutional holdings. Overall, our findings highlight the importance of aligning institutional investor preferences with CEO incentives in order to maximize shareholder benefits from CSR investment.

CEO Inside Debt and CSR : The Impact of CEO Retirement and Product Market Competition

Previous literature posits that CEOs with inside debt holdings are more likely to engage in corporate social responsibility (CSR) since they respond to bondholders’ demands as their appetite for risk decreases. This study examines whether a CEO’s risk concerns moderate the effect of CEO inside debt holdings on the firm’s CSR performance. We find that the positive relationship between CEO inside debt and CSR is weakened when CEOs are close to retirement, or when firms face less product market competition within their respective industries. Our results also suggest that the effect of CEO inside debt, as well as the moderating effect of CEO retirement and low competition, differs between internal and external stakeholder CSR. Furthermore, we find that the moderating effect of CEO retirement is strongly supported in propensity score matching analysis and alternative model specification, whereas that of low competition is weakly supported. Overall, this study has important policy implications for board members, managers, investors, and regulators as it highlights that CEOs’ compensation structure and risk concerns can be determinants of corporate sustainability policies.

CEO inside debt and internal capital market efficiency

Agency theory argues that managerial equity-based incentives are more effective when firm solvency is likely while debt-based incentives are more effective when firms face a greater likelihood of bankruptcy. We examine the relation between chief executive officers' (CEOs') inside debt holdings and the internal capital market allocation of multi-segment firms. We find that CEO inside debt holdings are associated with conservative capital allocation to firm segments, with the result driven by financially distressed firms. Further analysis indicates that although CEO inside debt, on average, is negatively related to firm value, the relation is positive for financially distressed firms. Our evidence indicates that inside debt holdings align the interests of managers and external creditors, inducing managers to pursue conservative capital allocation strategies that appear to be optimal for firms facing insolvency.

Payout policy decisions: the effect of compensation structures

ABSTRACTThis study examines the relation between CEO compensation structures and corporate payout policies from 2008 to 2015. The literature focuses on equity-based compensation, and few studies emphasize debt-based compensation. These two types of compensation structures have different features and thus induce managers to choose different payout policies. Using total payouts, dividends, and repurchases as three proxies for corporate payouts, we find that the relation between CEO equity-based compensation structures and total payouts is statistically trivial. However, when we break down corporate payout policies into dividend payouts and share repurchases, we find that CEOs with large options holdings decrease dividend payments and increase share repurchases. We also find that CEOs with large inside debt holdings pay more dividends to shareholders, but we find no significant effect on repurchase payouts. Our findings suggest that ignoring compensation types may veil their differing effects on corporate payout decisions.

Chief Executive Officer Inside Debt Holdings and Labor Investment Efficiency

AbstractWe show how chief executive officer (CEO) inside debt holdings affect corporations’ labor investment behavior. We empirically find a positive association between CEO inside debt holdings shown to increase their conservatism and long‐term horizons due to deferred payments and labor investment efficiency recognized as an integral factor in a firm's long‐term survival and growth. Additional analyses reveal that CEO inside debt holdings lead to a greater tendency to reduce net hiring amid excess labor availability than is observed when levels are optimal. This tendency is especially marked when CEO power is strong and when the firm has relatively high financial liquidity and leverage.

CEO Inside Debt and Asymmetric Cost Behavior

We examine the impact of CEO inside debt on SG&A cost asymmetry using a broad sample of S&P 1500 nonfinancial U. S. firms. Theory and prior empirical findings suggest that CEOs with large inside debt holdings manage their firms conservatively and adopt less risky corporate decisions. This study investigates the impact of CEO inside debt on cost decisions. The core concept of cost asymmetry literature is the future value of slack resources when sales decrease: slack resources can avoid adjustment costs when sales rebound. However, slack resources are still a part of risky investment because the management future prediction cannot be perfectly precise. Therefore, we predict that firms managed by CEOs who have high CEO inside debt exhibit lower degree of cost asymmetry. Consistent with our conjecture, we find that CEO inside debt is negatively associated with SG&A cost asymmetry. Further, we find that the negative association is more pronounced among firms with higher risk, suggesting that CEO inside debt provides managers with incentives in correspondence to the firm’s business condition. Additional evidence shows that the negative relation between CEO inside debt and cost asymmetry is more pronounced when the CEO is older and when the CEO is an outsider. Overall, this study contributes to the literature by providing evidence that CEO inside debt influences managers’resource adjustment decisions.

Executive compensation and corporate financing policies: Evidence from CEO inside debt

We examine the relation between chief executive officer (CEO) inside debt holdings and the firm's choice between debt and equity financing when it accesses external capital markets. We find positive relations between CEO inside debt holdings and both the firm's likelihood to issue debt and the proportion of debt of their total external financing. Additional analysis indicates that CEO inside debt is negatively related to the cost of debt and positively related to the stock price reaction around the public debt issue announcement. Our results are consistent with the argument that inside debt aligns managers' and debtholders' interests leading to favorable debt terms that motivate firms to raise debt to meet their capital needs.

CEO inside debt and bank loan syndicate structure

This paper investigates the effects of a borrowing firm's CEO inside debt holdings on the structure of the firm's syndicated loans. When a borrowing firm's CEO has a higher level of inside debt holdings, syndicate loans have a larger number of lenders and are less concentrated, and lead arrangers will retain a smaller portion of loans. In addition, CEO inside debt holdings have a lesser effect on the syndicate structure when lead arrangers have a prior lending relationship with the borrowing firm or the CEOs are close to retirement, while CEO inside debt holdings have greater influence on the syndicate structure when the borrowing firm has low information transparency.