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CEO Contract Design Regulation and Risk-Taking

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  • Johannes Sauset
  • Phillip Waller
  • Michael Wolff

Abstract

Since 2009, the European Commission (EC) requires firms to incorporate an array of new elements into CEO compensation contracts, such as bonus caps, claw back provisions, bonus deferral, performance-vesting, and minimum shareholding guidelines. This paper examines whether CEO contract design in line with the EC principles reduces risk-taking and its economic consequences. Using hand-collected contract design data of 763 firm-years from European listed non-financial firms, we construct an index that reflects a firm's contract fit with the EC principles. Complemented by hand-collected data of national regulatory changes consistent to the EC principles, we employ the regime shift as quasi-experiment. We find that CEOs rewarded under contracts more in line with the principles choose lower risk profiles with respect to their country peers by divergent reductions of idiosyncratic and systematic risk-taking. Moreover, intensity of change of the regulatory environment negatively affects systematic risk-taking. Furthermore, we find CEOs compensated under contracts more adhering to the principles lead to increased subsequent risk-adjusted performance.

Suggested Citation

  • Johannes Sauset & Phillip Waller & Michael Wolff, 2015. "CEO Contract Design Regulation and Risk-Taking," European Accounting Review, Taylor & Francis Journals, vol. 24(4), pages 685-725, December.
    • Handle: RePEc:taf:euract:v:24:y:2015:i:4:p:685-725
    DOI: 10.1080/09638180.2015.1071275
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    References listed on IDEAS

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    1. Joshua D. Angrist & Jörn-Steffen Pischke, 2009. "Mostly Harmless Econometrics: An Empiricist's Companion," Economics Books, Princeton University Press, edition 1, number 8769.
    2. Kuang, Y., 2007. "Incentive effects of performance-vested stock options," Other publications TiSEM 18dd1758-4773-426f-98f3-d, Tilburg University, School of Economics and Management.
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    Cited by:

    1. Jan Diebecker & Friedrich Sommer, 2017. "The impact of corporate sustainability performance on information asymmetry: the role of institutional differences," Review of Managerial Science, Springer, vol. 11(2), pages 471-517, March.
    2. Niklas Kreilkamp & Sascha Matanovic & Maximilian Schmidt & Arnt Wöhrmann, 2023. "How executive incentive design affects risk-taking: a literature review," Review of Managerial Science, Springer, vol. 17(7), pages 2349-2374, October.
    3. Ivo Schedlinsky & Friedrich Sommer & Arnt Wöhrmann, 2016. "Risk-taking in tournaments: an experimental analysis," Journal of Business Economics, Springer, vol. 86(8), pages 837-866, November.

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