Corporate governance, compensation consultants, and CEO pay levels

Abstract

This study investigates the relation between corporate governance and CEO pay levels and the extent to which the higher pay found in firms using compensation consultants is related to governance differences. Using proxy statement disclosures from 2,110 companies, we find that CEO pay is higher in firms with weaker governance and that firms with weaker governance are more likely to use compensation consultants. CEO pay remains higher in clients of consulting firms even after controlling for economic determinants of compensation. However, when consultant users and non-users are matched on both economic and governance characteristics, differences in pay levels are not statistically significant, indicating that governance differences explain much of the higher pay in clients of compensation consultants. We find no support for claims that CEO pay is higher in potentially "conflicted" consultants that also offer additional noncompensation-related services. Abstract: This study investigates the relation between the use of compensation consultants and CEO pay levels. Using new proxy statement disclosures from 2,116 companies, we examine claims that pay is higher in clients of compensation consultants, and test whether any pay differences in users and non-users of consultants are due to differences in economic or corporate governance characteristics. We find that CEO pay is generally higher in clients of most consulting firms, even after controlling for economic determinants of compensation. However, when users and non-users are matched on both economic and governance characteristics, differences in pay levels are not statistically significant. These results are consistent with claims that compensation consultants provide a mechanism for CEOs of companies with weak governance to extract and justify excess pay. Finally, we find no support for claims that CEO pay is higher in "conflicted" consultants that also offer additional non-compensation related services.

Executive Compensation: A Survey of Theory and Evidence

“…A number of studies …nd that various measures of board ine¤ectiveness are associated with pay practices that favor the CEO (Hallock, 1997;Core, Holthausen, and Larcker, 1999;Fahlenbrach, 2009;Armstrong, Ittner, and Larcker, 2012). The level of CEO pay tends to increase in board size (negatively related to the pressure an individual director faces to monitor), the number of outside directors serving on more than three boards (negatively related to their capacity to monitor), and the number of outsiders appointed by the CEO (negatively related to their independence).…”

“…In the …rst year after the 2006 disclosure rules required U.S. …rms to reveal the use of compensation consultants, 78% of S&P 1,500 …rms used at least one consultant (of which 17% use two or more), and another 9% purchased compensation surveys prepared by consultants (Murphy and Sandino, 2010). While using consultants is associated with higher executive pay, this di¤erence becomes insigni…cant when controlling for corporate governance (Armstrong, Ittner, and Larcker, 2012). Hence, higher pay might be caused by di¤erences in …rm characteristics, not by using consultants.…”

“…Looking directly for potential con ‡icts of interest, neither Cadman, Carter, and Hillegeist (2010) nor Armstrong, Ittner, and Larcker (2012) …nd higher pay or lower pay-performance sensitivities for clients of multi-service consultants, de…ned as consultants that also o¤er other services, such as pension and tax advice. However, using actual data on other services provided by compensation consultants, Murphy and Sandino (2010) show that CEO pay is higher in U.S. and Canadian …rms if other services are provided, and that pay is higher in Canadian …rms when the fees paid to consultants for other services are large relative to those for compensation advice.…”

Asymmetric Information, Trading Volume, and Portfolio Performance

“…This explains the existence of board systems (Kostyuk, 2006) and other external monitoring such as rating agencies and institutional investors. On the other hand highpowered incentive contracts such as shares and stock-options to remunerate directors were implemented in most companies over the last years (Armstrong et al, 2012).…”

Executive Remuneration: Achieving Accountability through Disclosure

“…Armstrong, Ittner and Larcker (2012) found that firms with weaker governance that used a remuneration consultant are more likely to pay higher than expected remuneration to the CEO. In contrast, Murphy and Sandino (2017) find that the use of a consultant is associated with more complex incentive plans, which in turn result in higher levels of pay.…”