You get what you Pay for: The Effect of Top Executives’ Compensation on Advertising and R&D Spending Decisions and Stock Market Return

Abstract

Although there is literature on how top executives' compensation influences general management decisions, relatively little is known about whether and how compensation influences advertising and research-and-development (R&D) spending decisions. This study addresses two questions. First, is there an incentive effect of long-versus short-term compensation on advertising and R&D spending? Second, is there a mediation effect of advertising and R&D spending on the relationship between long-versus short-term compensation and stock market return? The authors address these questions using a combination of ExecuComp, Compustat, and Center for Research in Security Prices data on 842 firms during the 1993-2005 period. They find that an increase in the equity to bonus compensation ratio is positively associated with an increase in advertising and R&D spending as a share of sales. Advertising and R&D spending as a share of sales also mediates the effect of equity to bonus ratio on stock market return. The authors discuss implications for top management seeking to mitigate myopic management of resources by employing compensation to incentivize a longer-term orientation for advertising and R&D spending to improve stock return.

Effect of analysts’ earnings pressure on marketing spending and stock market performance

“…This effect is consistent with the view that marketing is viewed by top executives as a discretionary expense which may create intangible assets, but readily cut in times of earnings pressure (Currim et al, 2012). An analysis of firm and industry based moderator variables reveals that this result is driven by high R&D industries.…”

“…One reason is that the stock-based compensation of top five executives is based more on current/near-term stock prices (Currim et al, 2012).…”

“…Our paper is aimed at the gap in awareness. In some firms top executives may be aware of such losses but continue to tradeoff losses for a number of reasons such as short-term incentive-based compensation (Currim et al, 2012), private information (Stein, 1989), Financial Accounting Standards Board's (FASB) Generally Accepted Accounting Principles (GAAP) 1 , or executives' limited time horizons. How do such firms ensure that top executives under analysts' pressures do not cut marketing spending in the short-term, a decision which is counter-productive for the firm's longer-term stock performance (Lodish & Mela, 2007)?…”

What corporations do with foresight

“…In forecasting models, planners assume these trends to remain constant, which does not accommodate the existence of uncertain or chaotic conditions during highly changeable times [41]. Furthermore, because the signals of impending change are often weak and lacking of causal links there is a tendency to overlook the potential effects [9].…”

The Economic Relevance Of Chief Marketing Officers In Firms Top Management Teams

“…2 We limit our sample to the ExecuComp database because it provides yearly data on the compensation of the top five executives. The ExecuComp database covers current, historic, and total compensation data on the top five executives of companies in Standard & Poor's S&P 500, S&P 400 MidCap, and S&P 600 SmallCap indexes (Currim et al, 2012). We search executives that are listed among the top five highest paid executives during the year and identify whether an individual holding the CMO title is among the top five.…”