The role of director incentives in investment efficiency

Abstract

Purpose The existing literature involving director compensation has been concentrating on its absolute or intrinsic values. Although the relevant studies have generated mixed findings, research in other fields suggests that the power of an incentive may be determined by its value relative to the chosen referencing standard more than its absolute value. This study aims to investigate how relative director pay affects corporate investment efficiency. Design/methodology/approach This study takes a fresh theoretical viewpoint by framing the investigation using the dimensional comparison theory and proposing that a directorship also presents a relative value that may influence the board’s performance. Ordinary least squared regressions and two-stage system generalised method of moments are used to analyse 14,267 firm-year observations. Findings The empirical results suggest that the relative director pay is a better estimate of the power of the incentive than the absolute pay. A positive association between the relative director pay and investment efficiency is evident, while the absolute pay has no significant effect on investment decisions. Director overcompensation, however, will cancel out the positive effect of director compensation on investment efficiency. Firms with relatively lower unexpected investment (UI) level benefit the most from an increase in the relative director pay, while neither absolute nor relative director pay affects investment choices in firms with a high UI level because of significantly more overcompensation. Originality/value To the best of the authors’ knowledge, this study is the first attempt to investigate the effect of relative director pay. It is also the first to examine the role of dimensional comparison in strategic decisions which is the single untended comparison framework in the director pay design. The current director pay structure has emphasised social and temporal equality by standardising the pay structure and vesting the equity-based pay over a long period. Yet it ignores the fact that people decide their commitment level by comparing the reward with an internal referent too. The findings speak to the dimensional comparison theory in that the inequality emanated from dimensional or internal comparison may be accentuated by the perceived equality in other comparison frameworks, driving the different performances in the roles one assumes.

Business diversification choices: do director incentives matter?

“…Researchers studying comparisons argue that individuals are primarily troubled by perceived negative disparities (like receiving fewer rewards than a reference point). Such perceived inequalities can lead to dissatisfaction and potentially result in counterproductive behaviour (Adams, 1963; Pfeffer and Langton, 1993; Zyung and Shi, 2022; Zhang and Michael, 2023b). A pay level lower than the referent(s) will elicit greater dissatisfaction when the pay gap is big, while those earning more are less likely to be disturbed by the pay differentials (Pfeffer and Langton, 1993).…”

“…They signify a firm’s profitability in relation to its assets and shareholders’ equity, respectively. To account for the temporal gap between strategy implementation and the manifestation of outcomes, I adopt the approach of many empirical studies (Lai and Liu, 2018; Ullah et al ., 2020; Zhang and Michael, 2023b) to utilize one-year forward data for the strategic outcome criterion (e.g. ROA and ROE in Equation (1) and Unrelated_diversification in Equation (2)).…”

“…Rewards and/or feedback are generally used to measure the achievement in a domain in empirical studies (Möller et al ., 2009; Müller-Kalthoff et al ., 2017b). While this theory has primarily been examined in educational and psychological contexts, a few studies have ventured into examining its implications on corporate behaviour and individual earnings (Zhang and Michael, 2023b; Bosse and Phillips, 2016).…”

“…Economists were quick to acknowledge the effect of social comparison on consumer behaviour and developed the wellknown relative income hypothesis (Duesenberry, 1949;Easterlin, 1974). Despite the wide recognition of the relativity of the incentive in psychology and socioeconomics, this idea is rarely applied in corporate studies and very little research hitherto has involved relative director pay (Van Zanden et al, 2017;Zhang and Michael, 2023a).…”

Yönetim Kurulu Yapısının Yatırım Etkinliği ve Firma Değeri Üzerindeki Moderatör Etkisi: BİST Örneği / The Moderating Effect of Board Structure on Investment Efficiency and Firm Value: BIST Example

“…Firmalar, faaliyetlerini devam ettirebilmek, operasyonel kapasitelerini koruyabilmek ve hissedarların değerini maksimize edebilmek için büyük miktarlarda yatırım yapmaktadırlar (Amoah, 2022). Yatırım kararları, bir firmanın gelecekteki performansını büyük ölçüde etkileyebilir ve bu nedenle firmanın değerlemesinde önemli bir rol oynar (Zhang ve Michael, 2023). Firma yöneticilerinin temel amacının hissedarlar için değeri maksimize etmek olduğu ve bunun sadece pozitif net bugünkü değere sahip projelere yatırım yaparak elde edilebileceği bilinmektedir.…”