_________________________________________________________________
E M P L O Y E E B E N E F I T S , C O M P E N S A T I O N
& P E N S I O N L A W
Vol. 6, No. 21: November 3, 2005
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Publisher: Employment, Labor, Compensation & Pension Law Journals
a division of
Social Science Electronic Publishing, Inc. (SSEP)
and Social Science Research Network (SSRN)
Editor: PAMELA PERUN
Urban Institute
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Copyright: SSEP, Inc. 2005. All rights reserved.
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Topic of This Issue:
Executive Compensation
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T A B L E of C O N T E N T S
_________________________________________________________________
NEW and FORTHCOMING ARTICLES
"Deferred Compensation Reform: Taxing the Fruit of the Tree in
its Proper Season"
Ohio State Law Journal, Vol. 67, No. 2, 2006
ERIC D. CHASON
College of William and Mary
Marshall-Wythe School of Law
"The Growth of Executive Pay"
Oxford Review of Economic Policy, Vol. 21, No. 2, 2005
LUCIAN ARYE BEBCHUK
Harvard Law School
National Bureau of Economic Research (NBER)
YANIV GRINSTEIN
Cornell University
Samuel Curtis Johnson Graduate School of Management
"Is There a Link Between Executive Equity Incentives and
Accounting Fraud?"
Journal of Accounting Research, Forthcoming
MERLE ERICKSON
University of Chicago
MICHELLE HANLON
University of Michigan at Ann Arbor
Stephen M. Ross School of Business
EDWARD L. MAYDEW
University of North Carolina at Chapel Hill
WORKING PAPERS
"The Fall of ESO Repricing: Governance Reform or Reform Gone
Awry?"
N. K. CHIDAMBARAN
Rutgers Business School
NAGPURNANAND R. PRABHALA
University of Maryland
Robert H. Smith School of Business
"Setting the CEO's Pay: Economic and Psychological Perspectives"
CHARLES A. O'REILLY
Stanford University
Graduate School of Business
BRIAN G.M. MAIN
University of Edinburgh
David Hume Institute
"Women-Led Firms and the Gender Gap in Top Executive Jobs"
LINDA BELL
Haverford College
Department of Economics
Institute for the Study of Labor (IZA)
"Letting go of Norm: How Executive Compensation can do Better
than Best Practices"
MARC HODAK
Hodak Value Advisors
S S R N I N F O R M A T I O N
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N E W and F O R T H C O M I N G Articles
_________________________________________________________________
"Deferred Compensation Reform: Taxing the Fruit of the Tree in
its Proper Season"
Ohio State Law Journal, Vol. 67, No. 2, 2006
BY: ERIC D. CHASON
College of William and Mary
Marshall-Wythe School of Law
Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=781364
Contact: ERIC D. CHASON
Email: Mailto:edchas@wm.edu
Postal: College of William and Mary
Marshall-Wythe School of Law
South Henry Street
P.O. Box 8795
Williamsburg, VA 23187-8795 UNITED STATES
ABSTRACT:
Executive pensions (or deferred compensation) grabbed headlines
after the collapse of Enron and the emergence of fresh concerns
over ever-increasing executive pay. They also grabbed the
attention of Congress, which reformed executive pensions
legislatively in 2004 with section 409A of the Internal Revenue
Code. Section 409A merely tightens and clarifies the doctrines
that had already governed executive pensions, leaving the basic
economics of executive pensions unchanged. Executives can still
defer taxation on current compensation until actual payment is
made in the future. Deferral still comes at the same price to
the employer, namely the deferral of its deduction for the
compensation expense. Thus, the timing of deduction and
inclusion are matched. Because of this matching, deferral has no
tax advantage at all except in three scenarios: (1) where the
executive faces lower tax rates in the future, (2) where the
employer faces higher tax rates in the future, and (3) where the
employer can earn higher after-tax investment returns than the
executive can earn. The first scenario (higher future tax rate
for executives) is the most compelling, as executives will often
face lower tax rates in the future because retirement will bring
an end to their prime earning years. The second scenario (lower
future tax rate for employers) is less compelling, as corporate
income does not have the same life cycle as executives' income.
The third scenario (greater ability for the employer to earn
after-tax returns) is less compelling as well, given the lower
tax rates that executives (but not corporate employers) pay on
capital gains and dividend income. Thus, the primary problem of
executive pensions is the temporal shifting of executive
compensation from high-tax years to low-tax years. This temporal
shifting is clearly allowed by current law, in contrast to
personal shifting of compensation income from high-rate
taxpayers to low-rate taxpayers. The policy concerns are largely
the same, however, and the tax laws should limit the temporal
shifting as well. The ideal response would be a system of
accrual taxation on executive pensions. A second best would be
taxing the delayed payment at the highest marginal tax rates
that apply to individuals.
JEL Classification: H2, H24, H25, K34
______________________________
"The Growth of Executive Pay"
Oxford Review of Economic Policy, Vol. 21, No. 2, 2005
BY: LUCIAN ARYE BEBCHUK
Harvard Law School
National Bureau of Economic Research (NBER)
YANIV GRINSTEIN
Cornell University
Samuel Curtis Johnson Graduate School of Management
Paper ID: Harvard Law and Economics Discussion Paper No. 510
Contact: LUCIAN ARYE BEBCHUK
Email: Mailto:bebchuk@law.harvard.edu
Postal: Harvard Law School
1563 Massachusetts Avenue
Cambridge, MA 02138 UNITED STATES
Phone: 617-495-3138
Fax: 617-496-3119
Co-Auth: YANIV GRINSTEIN
Email: Mailto:yg33@cornell.edu
Postal: Cornell University
Samuel Curtis Johnson Graduate School of
Management
Ithaca, NY 14853 UNITED STATES
ABSTRACT:
This paper examines both empirically and theoretically the
growth of U.S. executive pay during the period 1993-2003. During
this period, pay has grown much beyond the increase that could
be explained by changes in firm size, performance and industry
classification. Had the relationship of compensation to size,
performance and industry classification remained the same in
2003 as it was in 1993, mean compensation in 2003 would have
been only about half of its actual size. During the 1993-2003
period, equity-based compensation has increased considerably in
both new economy and old economy firms, but this growth has not
been accompanied by a substitution effect, i.e., a reduction in
non-equity compensation. The aggregate compensation paid by
public companies to their top-five executives during the
considered period has added up to about $290 billion, and the
ratio of aggregate top-five compensation to profits increased
from 4.8% in 1993-1995 to 10.3% in 2001-2003. After presenting
evidence about the growth of pay, we discuss alternative
explanations for it. We examine how this growth could be
explained under either the arm's length bargaining model of
executive compensation or the managerial power model. Among
other things, we discuss the relevance of the parallel rise in
market capitalizations and in the use of equity-based
compensation.
JEL Classification: D23, G32, G38, J33, J44, K22, M14
______________________________
"Is There a Link Between Executive Equity Incentives and
Accounting Fraud?"
Journal of Accounting Research, Forthcoming
BY: MERLE ERICKSON
University of Chicago
MICHELLE HANLON
University of Michigan at Ann Arbor
Stephen M. Ross School of Business
EDWARD L. MAYDEW
University of North Carolina at Chapel Hill
Contact: MICHELLE HANLON
Email: Mailto:mhanlon@umich.edu
Postal: University of Michigan at Ann Arbor
Stephen M. Ross School of Business
701 Tappan Street
Ann Arbor, MI 48109 UNITED STATES
Phone: 734-647-4954
Fax: 734-936-0282
Co-Auth: MERLE ERICKSON
Email: Mailto:merle.erickson@gsb.uchicago.edu
Postal: University of Chicago
Graduate School of Business
1101 East 58th Street
Chicago, IL 60637 UNITED STATES
Co-Auth: EDWARD L. MAYDEW
Email: Mailto:edward_maydew@unc.edu
Postal: University of North Carolina at Chapel Hill
McColl Building
Chapel Hill, NC 27599-3490 UNITED STATES
ABSTRACT:
We compare executive equity incentives of firms accused of
accounting fraud by the Securities and Exchange Commission (SEC)
during the period 1996-2003 to two samples of firms not accused
of fraud. We measure equity incentives in a variety of ways and
employ a battery of empirical tests. We find no consistent
evidence that executive equity incentives are associated with
fraud. These results stand in contrast to assertions by policy
makers that incentives from stock-based compensation and the
resulting equity holdings increase the likelihood of accounting
fraud.
JEL Classification: M41, M43, M49, J33, G34, G32
______________________________
W O R K I N G P A P E R Abstracts
_________________________________________________________________
"The Fall of ESO Repricing: Governance Reform or Reform Gone
Awry?"
BY: N. K. CHIDAMBARAN
Rutgers Business School
NAGPURNANAND R. PRABHALA
University of Maryland
Robert H. Smith School of Business
Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=800132
Date: September 2005
Contact: N. K. CHIDAMBARAN
Email: Mailto:chiddi@rci.rutgers.edu
Postal: Rutgers Business School
Piscataway, NJ 08854 UNITED STATES
Phone: 732-445-4446
Co-Auth: NAGPURNANAND R. PRABHALA
Email: Mailto:nprabhal@rhsmith.umd.edu
Postal: University of Maryland
Robert H. Smith School of Business
4427 Van Munching Hall
College Park, MD 20742-1815 UNITED STATES
ABSTRACT:
Active investors and advocates for governance reform criticize
repricing because it gives managers extra compensation after
stock prices decline. Due to this hostility and an adverse
accounting ruling, repricing essentially went extinct in 1998, a
step that is often viewed as a positive step in governance
reform. We present evidence for a more skeptical view of this
regime shift away from repricing. Historically, repricing costs
are rather modest and in any event, appear to be primarily
directed at non-executive employees of firms. While restricting
repricing aims to stop the flow of extra compensation when
prices decline, its actual effect is to merely shift the way in
which such compensation is conveyed. The next-generation
substitutes for repricing accomplish little: they are no cheaper
than repricing, and are in fact potentially costlier. We present
empirical evidence on these costs and find that they can be
quite large, especially for firms that use stock options
extensively. Thus, the demise of repricing, while nominally a
victory for governance reformists, seems to have achieved little
other than imposing an inferior contracting regime upon firms.
JEL Classification: G30, G34
______________________________
"Setting the CEO's Pay: Economic and Psychological Perspectives"
BY: CHARLES A. O'REILLY
Stanford University
Graduate School of Business
BRIAN G.M. MAIN
University of Edinburgh
David Hume Institute
Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=804584
Paper ID: Stanford GSB Research Paper No. 1912
Date: September 2005
Contact: CHARLES A. O'REILLY
Email: Mailto:oreilly_charles@gsb.stanford.edu
Postal: Stanford University
Graduate School of Business
518 Memorial Way
Stanford, CA 94305-5015 UNITED STATES
Co-Auth: BRIAN G.M. MAIN
Email: Mailto:brian.main@ed.ac.uk
Postal: University of Edinburgh
50 George Square
Edinburgh EH8 9JY, Scotland UNITED KINGDOM
ABSTRACT:
To many, the principal-agent model is the obvious lens through
which executive pay should be viewed. Such a sentiment sits
uncomfortably with a large number of empirical studies
suggesting that the process of determining executive pay seems
to be more readily explained by recourse to arguments of
managerial power and influence. This paper investigates the
micro-underpinnings of boardroom behavior in order to explain
this departure from principal-agency theory's argument that
executive compensation serves to align interests between the
owners of the company and its senior managers. Using data drawn
from two very different industries, this study empirically
demonstrates the linkages between the social forces present in
the boardroom and executive pay outcomes. In particular, we find
that there are strong interaction effects among social influence
variables and the social setting of boardroom activity. Generous
pay awards, bearing only a weak connection to corporate
performance, are explained in the context of the social
psychology of the boardroom. Although there is a price to be
paid for engendering an atmosphere in which advice and counsel
can flourish, the slippage from the idealized principal-agent
prescription of pay for performance need not be overwhelmingly
large.
______________________________
"Women-Led Firms and the Gender Gap in Top Executive Jobs"
BY: LINDA BELL
Haverford College
Department of Economics
Institute for the Study of Labor (IZA)
Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=773964
Paper ID: IZA Discussion Paper No. 1689
Date: July 2005
Contact: LINDA BELL
Email: Mailto:lbell@haverford.edu
Postal: Haverford College
Department of Economics
Haverford, PA 19041 UNITED STATES
ABSTRACT:
Using data on Executive Compensation from Standard and Poor's
ExecuComp, this paper explores the gender gap in top executive
jobs and the effect of women CEOs, Chairs, and Directors on the
pay of other women executives. The results show a narrowing of
the uncorrected gender pay gap from the mid-1990s. Women top
executives earn between 8% to 25% less than male executives
after controlling for differences in company size, occupational
title, and industry. The magnitude of the gender pay gap is
statistically related to the gender of the Chief Executive and
Corporate Board Chair. Women CEO and Board Chairs bring more top
women and at higher pay than is found in non-women-led firms.
Specifically, female executives in women-led firms earn between
10-20% more than comparable executive women in male-led firms
and are between 3-18% more likely to be among the highest five
paid executives in these firms as well. The paper thereby
provides strong empirical evidence that women leaders are
associated with positive outcomes for women executives in
substantive and important ways.
JEL Classification: J11, J16, J33, J70, J71, J78
______________________________
"Letting go of Norm: How Executive Compensation can do Better
than Best Practices"
BY: MARC HODAK
Hodak Value Advisors
Document: Available from the SSRN Electronic Paper Collection:
http://papers.ssrn.com/paper.taf?abstract_id=816825
Date: August 2005
Contact: MARC HODAK
Email: Mailto:mhodak@hodakvalue.com
Postal: Hodak Value Advisors
New York, NY 10022 UNITED STATES
ABSTRACT:
Media criticism of CEO pay packages has spurred directors to
engage more directly with management and their advisors on
compensation issues, as well as seek independent advice in a
search for "best practices." This engagement is transforming the
process of executive compensation design, administration, and
oversight at many major public companies. But have all these
process changes improved the output - that is, the compensation
plans themselves?
Conflicting opinions and counterexamples can be found for most
of what is claimed to be "best practice," but until recently
there has been little empirical research to support or refute
such claims. This paper explores some of the more concrete
trends in executive compensation, evaluates those that lend
themselves to testable assertions of their value, and derives
some conclusions based on examination of detailed data on
executive compensation plans for the entire S&P 500.
This paper is not concerned with the reasons that compensation
structures look the way they do (e.g., "executive greed," "board
capture," "market for talent," etc.), nor is it concerned with
the issue of high CEO pay per se. Instead, we look at how
compensation structures as they are work for or against
shareholder value creation. Against this standard, the evidence
indicates that certain practices prove out favorably, some have
questionable value at best, and some are clearly
counter-productive.