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CEO pay cuts and forced turnover: Their causes and consequences

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  • Gao, Huasheng
  • Harford, Jarrad
  • Li, Kai

Abstract

We study large discrete decreases in CEO pay and compare them to CEO forced turnover. The determinants are similar, as are the performance improvements after the action. After the pay cut, the CEO pay-for-performance sensitivity is abnormally high, such that the CEO can restore his pay level by reversing the poor performance. After either a pay cut or forced turnover, CEOs reduce investment and leverage, and improve performance, on average. Together, our results show that the possibility of these large compensation cuts provides ex ante incentives for CEOs to exert effort to avoid poor performance and that CEOs take actions to improve poor performance once pay is cut. The similarity of the causes and outcomes of large pay cuts compared to forced turnover suggests that large pay cuts are used as a substitute for forced turnover, helping to explain why forced turnover is rare.

Suggested Citation

  • Gao, Huasheng & Harford, Jarrad & Li, Kai, 2012. "CEO pay cuts and forced turnover: Their causes and consequences," Journal of Corporate Finance, Elsevier, vol. 18(2), pages 291-310.
  • Handle: RePEc:eee:corfin:v:18:y:2012:i:2:p:291-310
    DOI: 10.1016/j.jcorpfin.2012.01.001
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    References listed on IDEAS

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    Cited by:

    1. Evangelos C. Charalambakis, 2014. "On corporate financial distress prediction: what can we learn from private firms in a small open economy?," Working Papers 188, Bank of Greece.
    2. repec:eee:advacc:v:33:y:2016:i:c:p:1-10 is not listed on IDEAS
    3. Hornstein, Abigail S., 2013. "Corporate capital budgeting and CEO turnover," Journal of Corporate Finance, Elsevier, vol. 20(C), pages 41-58.
    4. IZUMI Atsuko & KWON Hyeog Ug, 2015. "Change in Corporate Performance after Forcing Out CEOs: Comparison between the United States and Japan (Japanese)," Discussion Papers (Japanese) 15032, Research Institute of Economy, Trade and Industry (RIETI).
    5. Gao, Huasheng & Li, Kai, 2015. "A comparison of CEO pay–performance sensitivity in privately-held and public firms," Journal of Corporate Finance, Elsevier, vol. 35(C), pages 370-388.

    More about this item

    Keywords

    Corporate governance; Executive compensation; Pay cuts; Forced turnover; Pay-for-performance sensitivity;

    JEL classification:

    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance

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