Industry tournament incentives and stock price crash risk

Abstract

Theoretical and empirical studies argue that managerial hoarding of negative firm-specific information can result in large negative stock price corrections once the accumulated information is revealed. A managerial labor market with tournament-like progression provides managers with the incentive to withhold negative information. We find that chief executive officers with stronger incentives to progress in the managerial labor market tournament have significantly greater stock price crash risk, consistent with a greater propensity for these executives to withhold negative firm-specific information. The empirical patterns that we document suggest a negative externality to the positive incentive effects provided by the managerial labor market.

Industry Tournament Incentives and Corporate Hedging Policies

“…Although Coles et al (2017) report that ITIs, which are risk incentives, have a positive effect on firm value, some papers find that they have harmful effects as well. Kubick and Lockhart (2021) detect a positive relation between ITIs and stock price crash risk. They argue that CEOs who are more strongly motivated to progress in the CEO labor-market tournament have a higher propensity to withhold negative firm-specific information.…”

“…Therefore, a CEO induced by ITIs might be more inclined to use hedging instruments to enhance firm value in order to increase the probability of moving up in the tournament. ITIs have been shown to increase stock price crash risk (Kubick and Lockhart, 2021) and the cost of debt (Kubick et al, 2020), both of which can negatively affect firm value. At the same time, however, hedging derivatives have been shown to reduce stock price crash risk (Kim, Si, Xia, and Zhang, 2021)…”

“…On the other hand, according to our risk management hypothesis, CEOs might be induced to use hedging tools as a buffer against the side effects of ITIs. ITIs are documented to have a positive association with the cost of borrowing (Kubick et al, 2020) and with stock price crash risk (Kubick and Lockhart, 2021), both of which can hurt a firm's performance. This negative effect can damage a CEO's reputation, thereby curtailing the probability of moving up.…”

“…5 We also explore the possible reasons why a CEO motivated by the external CEO labor market might hedge more. Findings by Kubick et al (2020) and Kubick and Lockhart (2021) suggest that the corporate policies of a CEO who is motivated by ITIs lead to a higher cost of borrowing and a higher stock price crash risk. Hedging, however, can lower financing costs by alleviating cash flow variability (Smith and Stulz, 1985).…”

CEO industry tournament, investor attention, and company value

“…Moreover, compared with the alternative incentive compensation behaviors of management under industry pay gaps found by Chinese scholars based on social comparison theory (Fugui & Yafang, 2020), this paper makes a test of the incentive effects of CEO industry tournaments using Chinese data, which complements related research in the field. (2) The existing literature holds two opposing views on the governance effects of industry tournaments (Chowdhury et al, 2022;Coles et al, 2018;Huang et al, 2020;Kubick & Lockhart, 2021)…”