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Executive pensions, compensation leverage, and firm risk

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  • Reilly White

Abstract

Purpose - The purpose of this paper is to investigate how the structure of both CEO and non-CEO executive compensation affects the overall risk of a firm. The author focuses on the interplay between CEO and non-CEO executive compensation structure. Design/methodology/approach - The author uses a hand-collected pension-database that employs both OLS and two-stage least squares regressions to determine the effects of inside debt on default risk using the distance-to-default framework. The database consists of 8,965 executive-year data points from 272 firms. Findings - This paper accomplishes three major objectives: first, the author presents a significant extension of Sundaram and Yermack (2007) by including non-CEO executives; the author demonstrates how the differences in inside debt between CEO and non-CEO executives are directly related to firm risk; and that funding these pensions via a Rabbi Trust eliminates most of the risk-shifting effects. Firms with the lowest compensation leverage gap between CEO and non-CEO executives were most likely to observe the agency costs associated with high executive leverage. When compensation leverage structures were substantially different, or the pension was pre-funded, these effects are neutralized. Originality/value - To the best of the author’s knowledge, the first paper addresses the effects of Rabbi Trusts on risk-shifting behavior between both CEOs and non-CEO executives. Further, the author extends Sundaram and Yermack (2007) using a hand-collected database six times larger than the original paper. By focusing on the “leverage gap” between CEOs and non-CEO executives, the author presents unique evidence that underlines the risk dynamics between CEOs and their boards.

Suggested Citation

  • Reilly White, 2018. "Executive pensions, compensation leverage, and firm risk," International Journal of Managerial Finance, Emerald Group Publishing Limited, vol. 14(3), pages 342-361, April.
    • Handle: RePEc:eme:ijmfpp:ijmf-08-2017-0172
    DOI: 10.1108/IJMF-08-2017-0172
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