Presentation 1, Assignment 5

Corporate governance, chief executive officer compensation, and firm performance.Core, John E., Holthausen, Robert W and Larcker, David F.Made by:Blom, RogerVan Kleef, RobinBrandjes RobinVan Olst, RolandJanissen, Robin1Research QuestionsThe purpose of this paper is to examine whether there isan association between the level of CEO compensation and the quality of firms corporate governance, and whether firms with weaker governance structureshave poorer future performance.

Research questions:Is there a relationship between board structure and CEO compensation?Is there a relationship between ownership structure and CEO compensation? Do firms with weaker governance structures have poorer future performance?

22HypothesesBoard and ownership structure explain a significant amount of CEO compensationH0: Observed board and ownership structures have no explanatory power on level of CEO compensation.H1: Observed board and ownership do have explanatory power on level of CEO compensation.

H0: Predicted excess CEO compensation has no explanatory power on firm performance.H1: Predicted excess CEO compensation has negative explanatory power on firm performance.

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3Methodology and sample4The sample consists of 495 observations over a three-year period (1982-1984) for 205 publicly traded U.S. firms.Model (cross-sectional analysis):CEO compensation = 0+ 2*Economic determinants + 2*Board structure + 3*ownership structure +

Measures of CEO compensation:-Base salary-Base salary and bonus-Base salary, bonus, stock options, performance plans and restricted stock.4Results5

Robin, kan hier ook tekst bij ? Iets in de trend van:

8 BoD-var and 4 OS-var are generally statistically significant at conventional levels

Increase CEO Pay / positive corr *:CEO is chairBoard sizeOutside dir appointed by CEOOutside dir gray Outside dir interlocked (not sign)Outside dir >69Outside dir busy

Decrease CEO pay / neg. Corr* :% inside directorCEO's % stock ownershipNon-CEO Internal director > 5% equity% stock ownership Outside director (not sign)Outside blockholder > 5% equity

=> Corp Governane is weak=> Less effective Corp Gov.->CEO pay

* If not mentioned variable is statistically significant

5Results

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The coefficients on excess compensation in Table 4 indicate that a 40%increase in excess compensation is associated with a decrease in annual stock returns per year of 4.97%, 2.82%, and 1.78%, for one-year, three-year,and ve-year stock returns, respectively.

=> Excess CEO pay lead to poorer future performance (Operating & Stock Market)6ConclusionBoth board characteristics and ownership structure have a substantive cross-sectional association with the level of CEO compensation {waar maar wollig, onderstaande kernachtiger}. CEO pay is higher when corporate governance is less effective (BoD & OS)Firms with weaker governance structures have poorer future performance (operating & stock market ) Firms with weak goverance structures -> greater agency problems; {Valt uit de lucht , toch ??? Maar staat wel in paper -> must}Firms with greater agency problems -> higher CEO payFirms with greater agency problems -> perform worse. zie boven

77Critics and recommandationsCross sectional analysis is weak. A panel study may be appriopriate to examine a change in board and ownership structure on CEO compensation.This research only includes U.S. firms. As a result, its not generalizable to other countries (example: one tier vs two tier boards)The time period of the data (1982-1984) is outdated. Composition of compensation changed.

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Related studiesMorse et al (2011): Are incentive contracts rigged by powerful CEOs? (week 5)Armstrong, C., C. Ittner, and D. Larcker, 2012, Corporate governance, compensation consultants, and CEO pay levels, Review of Accounting Studies, 17, 322-351 (week 6).

Jensen, M. and Murphy, K., 1990. Performance Pay and Top-Management Incentives. Journal of Political Economy. Volume 98, No. 2, Pages 225-264, April 1990Mehran, H., 1995. Executive compensation structure, ownership, and firm performance. Journal of Financial Economics., volume 38, Issue 2, pages 163-184, October 1991

9References(Murphy, 2012, Executive compensation: where we are, and how we got there, Working paper, Harvard Business School) -> waar komt dit vandaan? Of is dit die grafiek met bonus ontwikkeling?? Of heb ik iets gemist ?10Blad1

Influence on CEO Compensation - variablesBoard of DirectorsOwnership structuurCEO is board chair(+?)CEO's % stock ownership(-?)Board size(+?)Non-CEO Internal director > 5% equity(-?)% Internal directors(?)% stock ownership per Outside director(-?)% Outside directors Appointed by CEO(+?)Outside blockholder > 5% equity(-?)% Outside directors Gray(+?)% Outside directors Interlocked(+?)% Outside directors Old (>69Y)(+?)% Outside directors Busy (>3 Boards; >6 if retired)(+?)