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CEO Compensation Incentives and Playing It Safe: Evidence from FAS 123R

Published online by Cambridge University Press:  19 January 2023

Nicholas F. Carline ,
Oksana Pryshchepa Open the ORCID record for Oksana Pryshchepa [Opens in a new window]  and
Bo Wang
Nicholas F. Carline
Affiliation:
University of Birmingham Business School [email protected]
Oksana Pryshchepa*
Affiliation:
Cardiff University Business School Accounting & Finance Section
Bo Wang
Affiliation:
University of Southampton Business School [email protected]
*
[email protected] (corresponding author)
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Abstract

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This article uses FAS 123R regulation to examine how reduction in CEO compensation incentives affects managerial “playing it safe” behavior. Using proxies reflecting deliberate managerial efforts to change firm risk, difference-in-difference tests show that affected firms drastically reduce both systematic and idiosyncratic risks, leading to an 8% decline in total firm risk. These reductions in risk are achieved by shifting to safer, but low-Q, segments while closing the riskier ones, without significant changes in investment levels. Our findings suggest that decrease in risk-taking incentives provided by option compensation, when not compensated for by alternative incentives or governance mechanisms, exacerbates risk-related agency problem.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 58 , Issue 7 , November 2023 , pp. 2993 - 3026
Creative Commons
Creative Common License - CCCreative Common License - BY
This is an Open Access article, distributed under the terms of the Creative Commons Attribution licence (https://creativecommons.org/licenses/by/4.0), which permits unrestricted re-use, distribution and reproduction, provided the original article is properly cited.
Copyright
© The Author(s), 2023. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

We thank Paul Malatesta (the editor) and Connie X. Mao (the referee), as well as conference participants at the 2020 Financial Management Association Conference, for their helpful comments and suggestions.

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