Advanced Corporate Governance
Board Compensation
Univ.-Prof. Dr. Marc Eulerich ■ Lehrstuhl Interne Revision ■ WS 2019/20
Agenda
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 2
Business Ethics
Board Diversity
Board Dynamics
Codetermination
Board Compensation
1
2
3
4
5
6 International Corporate Governance Systems
4 Board Compensation
Board compensation
Christine Hohmann-Dennhardt will receive 12 MEUR for 13 months as member of the
executive board of VW where she held responsibility for 'Integrity and Legal Affairs”.
Martin Winterkorn received up to 17 MEUR per year while serving as CEO of VW, after
vacating his position in the wake of the emission scandal he now receives a retirement
pension of 3100 EUR a day.
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 4
Source: Spiegel Online
Board compensation
Thomas Middelhoff was chairmen of the supervisory board of KarstadtQuelle AG, which later
operated under the name of Arcandor, from 2004 to 2005, and CEO from 2005 until 2009.
Four months after Middelhoff left the company in Feb 2009, Arcandor declared bankruptcy.
In a confidential agreement Middelhoff and supervisory board chair Friedrich Carl Janssen
agreed on the following terms for the end of his employment:
• A bonus of over 0.5 MEUR for the time between October 2008 and February 2009
• Severance pay in the amount of approx. 1.5 million EUR
• Continuation of monthly payments for the next twelve months totaling 2 MEUR
• Compensation for the waiting period caused by a no-competition clause in the amount of
1.13 MEUR
• Monthly benefit payments of 12 690 EUR beginning in 2011
• As well as rent payments for his apartment in Düsseldorf of approx. 3 500 EUR each
month.
Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 5
Source: Wirtschaftswoche (2010, April)
Executive Board Compensation
Statutory provisions:
• Compensation is determined by the supervisory board according to§87 AktG.
• According to §120 (4) AktG shareholders have the right to vote on the executive board‘s
compensation during the general meeting („say on pay“).
• Compensation of listed companies‘ executive boards has to be disclosed according to §285 and §314 HGB.
Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 6
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 7
G. Remuneration of the Management Board
Principle 23:
The Supervisory Board decides on a clear and comprehensible system on the remuneration
for the Management Board members and, on this basis, determines the actual remuneration
for each Management Board member. The General Meeting adopts advisory resolutions on
the approval of the remuneration system for the Management Board members prepared by
the Supervisory Board, as well as proposing resolutions on the approval of the remuneration
report for the preceding financial year. The remuneration of Management Board members
must promote the corporate strategy and support the long-term development of the company.
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 8
1. Determining the remuneration system
G.1 The remuneration system shall define in particular:
− how the target and the maximum total remuneration is determined for each Management
Board member
− the relative share in the target total remuneration of fixed remuneration on the one hand,
and short-term variable and long-term variable remuneration components on the other
hand
− which financial and non-financial performance criteria are relevant for the granting of
variable remuneration components
− what kind of relationship exists between achieving previously-agreed performance criteria
and variable remuneration; and
− when and in what form Management Board members have access to granted variable
remuneration components
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 9
2. Determining total remuneration
G.2 The Supervisory Board shall establish the specific target and maximum total
remuneration for each Management Board member on the basis of the remuneration
system, which shall be appropriate to the corresponding Management Board
member’s tasks and performance as well as to the enterprise’s overall situation and
performance, and shall not exceed the usual level of remuneration without specific
reasons.
G.3 In order to assess whether the specific total remuneration of Management Board
members is in line with usual levels compared to other enterprises, the Supervisory
Board shall use an appropriate peer group of other third-party entities, and shall
disclose the composition of such group. The peer-group comparison shall be applied
with a sense of perspective, in order to prevent an automatic upward trend.
G.4 In order to determine whether remuneration is in line with usual levels within the
enterprise, the Supervisory Board shall take into account the relationship between
Management Board remuneration and the remuneration of senior managers and the
workforce as a whole, and how remuneration has developed over time.
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 10
2. Determining total remuneration (continued)
G.5 If the Supervisory Board calls upon an external remuneration expert to develop the
remuneration system and to evaluate the appropriateness of the remuneration, it should
ensure that the expert is independent from the Management Board and the enterprise.
3. Determining the total amount of variable remuneration components
G.6 The share of long-term variable remuneration shall exceed the share of short-term
variable remuneration.
G.7 Referring to the coming financial year, the Supervisory Board shall establish the
performance criteria for each Management Board member covering all variable
remuneration components; besides operating targets, the performance criteria shall
be geared mainly to strategic goals. The Supervisory Board shall determine to what
extent individual targets for each Management Board member – or targets for the
entire Management Board as a whole – are decisive for the variable remuneration
components.
G.8 Subsequent changes to the targets or comparison parameters shall be ruled out.
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 11
3. Determining the total amount of variable remuneration components (continued)
G.9 After the end of every financial year, the Supervisory Board shall establish the amount of
individual variable remuneration to be granted, depending on target achievement. The
target achievement shall be comprehensible in terms of both its rationale and
amount.
G.10 The long-term variable remuneration amounts of Management Board members shall
be largely invested in company shares by the respective Management Board
member, or shall be granted as share-based remuneration. Granted long-term
variable remuneration components shall be accessible to Management Board
members only after a period of four years. If the company disburses granted
benefits to Management Board members in a subsequent year, this shall be
disclosed in the remuneration report in a suitable form.
G.11 The Supervisory Board shall have the possibility to account for extraordinary
developments to an appropriate extent. It shall be permitted to retain or reclaim variable
remuneration if justified.
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 12
4. Benefits granted at contract termination
G.12 If the contract of a Management Board member is terminated, the dibursement of
any remaining variable remuneration components, which are attributable to the period
until contract termination, shall be based on the originally agreed targets and
comparison parameters, and on the due dates or holding periods stipulated in the
contract.
G.13 Payments made to a Management Board member due to early termination of their
Management Board activity shall not exceed twice the annual remuneration (severance
cap), and shall not constitute remuneration for more than the remaining term of the
employment contract. If post-contractual non-compete clauses apply, the severance
payments shall be taken into account in the calculation of any compensation
payments.
G.14 Benefit commitments made in connection with the early termination of a Management
Board member contract by the Management Board member due to a change of control
should not be agreed upon.
German Corporate Governance Code (GCGC)
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 13
5. Other Provisions
G.15 If Management Board members have intra-group Supervisory Board mandates, the
remuneration shall be offset against.
G.16Supervisory Board mandates are assumed at non-group entities, the Supervisory Board
shall decide whether and to what extent the remuneration shall be taken into account.
Executive Board Compensation
Executive board compensation includes:
• The sum of all material benefits that board members receive from the company for their
work.
• Fixed and variable compensation.
• Retirement benefits
– Severance pay, pensions, provision for dependents.
• Benefits while serving on the board.
• Other monetary as well as non-cash benefits
– One-time payments, granting of shares, use of a company car, etc.
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Executive Board Compensation
Compensation components (example):
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Pension provision
Fringe benefits*3 %
12 %
Long term
incentives
Annual bonus
20 %
45 %
Fixed remunerations20 %
Variable
compensation
Fixed
compensation
= 100 %
*Fringe Benefits can include:
Deferred Compensation, Severance pay, Early retirement pension, Transitional payments, Payments in case of a change of
control / loss of mandate, etc.
Executive Board Compensation – Fixed Compensation
Fixed compensation:
As total compensation increases the amount of fixed compensation decreases:
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 16
Total compensation per
capita in TEUR
Amount of fixed compensation
until 250 70 %
250 – 500 60 %
500 – 1.000 40 %
1.000 – 2.000 30 %
more than 2.000 20 %
Executive Board Compensation – Variable Compensation
An annual bonus is a short-term, incentive-based compensation component which aims
for:
• an ex-ante alignment of board members‘ commitment and business activities with the
achievement of operational and strategic company objectives
• executive management's participation in the company‘s success or failure (similar to the
way in which shareholders participate)
• reduced room for manipulation and „window dressing“.
• Based on measures such as, e.g., EBT, EBIT, EBITDA, ROCE, ROE, EVA, DCF.
• Level and development of stock prices might not be an objective measure of company
value and board performance due to turbulences on the stock market, balance sheet
manipulations, etc.
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Executive Board Compensation – Variable Compensation
Annual bonus:
Focus on „performance corridors“:
• E.g., bonus is paid only once 80% of the target value have been reached
– prevents rewarding unavoidable basic achievements
– stronger financial lever in the relevant performance range.
• Bonus cap for goals being exceeded by, e.g., 30% or 50%
– protection in case of extraordinary, unforeseeable developments.
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Executive Board Compensation – Variable Compensation
Long-term incentives aim to:
• motivate board members to pursue sustainable growth of internal and external company
value.
• effectively link board members‘ interests to those of shareholders and other stakeholders.
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Executive Board Compensation – compensation
systems
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Source: Ackermann et al. (2005)
Value oriented compensation systems
Share price
oriented
Genuine equity
instruments
Virtual equity
instruments
Genuine equity
instruments
Traditional key
figures
Value Oriented key
figures
• Stock options
• Employee shares
• Stock appreciation
Rights
• Phantom Stocks
• Profit / annual surplus
• ROI
• Revenue
• Value added
• Growth
• Dividend payout
• Economic value
• CFROI
• DCF
• Balanced Scorecard
Executive Board Compensation
Determinants of board compensation:
• Company‘s earning performance
• Company size
• Position within the board
• Executive responsibilities
• Personal performance
• Seniority
• etc.
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Company size as a compensation determinant
Number of company
employees
Per capital compensation in TEUR*
Lower quartile Median Upper quartile
until 250 217 273 387
250 – 500 181 334 442
500 – 1.000 404 557 715
1.000 – 5.000 460 661 1.303
5.000 – 10.000 640 1.064 1.496
10.000 – 50.000 1.157 1.460 2.082
more than 50.000 2.340 2.790 3.268
* For the year 2007
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Normal Market Remuneration
Vertical and horizontal comparison is used to determine the appropriateness of board
member compensation.
Vertical comparison looks at the board member‘s job profile and requirements in
comparison to the in-house compensation structure.
Horizontal comparison looks at whether the compensation is:
- customary in a specific industry (dt. „branchenüblich“)
- customary for a company‘s size (dt. „größenüblich“)
- customary for the country (dt. „landesüblich“).
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Vertical comparison of DAX30 companies
Company 2009 2010 2011 2012
Adidas AG 77:1 80:1 105:1 38:1
Allianz SE 43:1 54:1 36:1 48:1
BASF SE 32:1 43:1 55:1 46:1
Bayer AG 34:1 48:1 36:1 39:1
Beiersdorf AG 18:1 19:1 18:1 24:1
BMW AG 22:1 33:1 49:1 50:1
Commerzbank AG 7:1 8:1 8:1 18:1
Continental AG 26:1 48:1 52:1 45:1
Daimler AG 40:1 67:1 64:1 62:1
Deutsche Bank AG 38:1 46:1 42:1 27:1
Deutsche Börse AG 15:1 18:1 23:1 21:1
Deutsche Lufthansa AG 25:1 45:1 39:1 29:1
Deutsche Post AG 82:1 68:1 69:1 70:1
Deutsche Telekom AG 29:1 63:1 30:1 34:1
E.ON AG 53:1 50:1 39:1 51:1
Fresenius Medical Care AG & Co. KGaA 52:1 54:1 57:1 59:1
Fresenius SE 44:1 52:1 61:1 62:1
Heidelberg Cement AG 68:1 53:1 48:1 52:1
Henkel AG & Co. KGaA 44:1 54:1 63:1 85:1
Infineon Technologies 20:1 35:1 53:1 37:1
K+S AG 35:1 17:1 30:1 30:1
Lanxess AG 17:1 31:1 31:1 33:1
Linde AG 69:1 71:1 61:1 73:1
Merck KGaA 29:1 38:1 51:1 48:1
Münchener Rück AG 32:1 35:1 33:1 35:1
RWE AG 55:1 51:1 40:1 40:1
SAP 43:1 35:1 46:1 47:1
Siemens AG 50:1 68:1 64:1 58:1
ThyssenKrupp AG 18:1 47:1 46:1 41:1
Volkswagen AG 86:1 103:1 168:1 123:1
Average DAX 40:1 48:1 51:1 47:1
Salaries and wages per employee in relation to executive board compensation per board
member:
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Horziontal comparison
Index differences in the average executive board member total compensation for the year
2016 (in TEUR):
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938
631
427
373
743
547
354
347
1.334
623
243
346
481
237
170
85
170
85
85
45
- 500 1.000 1.500 2.000 2.500 3.000 3.500 4.000
Dax
MDax
SDax
TecDax
Base compensation
STI
LTI
Pensions pay
Fringe benefits
Horziontal comparison
Industry differences in the average executive board member total compensation for the year
2016 (in TEUR):
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808
838
430
701
482
581
550
901
661
777
583
665
304
830
541
444
660
367
785
597
1.078
829
375
687
914
611
748
674
1.196
1.115
239
385
75
351
75
256
225
446
150
344
50
50
20
75
75
75
50
50
75
75
- 500 1.000 1.500 2.000 2.500 3.000
Utilities
Telecommunication
Real estate
Raw, auxiliary and operating materials
IT
Manufacturing
Health
Finance
Consumer Staples
Discretionary consumer goods
Base compensation
STI
LTI
Pensions pay
Fringe benefits
Horziontal comparison
DAX – Average total compensation according to position (MEUR):
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1,5
0,8
1,2
0,7
2,4
1,2
0,7
0,4
0,2
0,1
0
1
2
3
4
5
6
7
CEO Other Members' Exec. Board
25%
26%
25%
21%
22%
20%
41%
37%
40%
10%
13%
12%
3%
2%
3%
0% 20% 40% 60% 80% 100%
2014
2015
2016
25%
25%
26%
21%
22%
21%
40%
38%
36%
11%
12%
14%
3%
3%
3%
0% 20% 40% 60% 80% 100%
2014
2015
2016
2016
2016
Base compensation STI LTI Pensions pay Fringe benefits
CEO
Other Members‘ Executive Board
2014
2016
2014
Supervisory Board Compensation
Supervisory Board Compensation
Increasing juridification of supervisory board work:
Work is becoming more and more demanding and time-consuming.
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 29
Source: Kienbaum (2016)
Year 1998 2002 2004 2005 2009 2010 2012 2013 2014 2015 2016
EU
initiatives
Recommen-
dation on
the role of
supervisory
board
members
Green book
FI and APr
Action plan
CG
Balance
directive
Share-
holder
directive
„say on pay“
Laws Kon-TraG Trans-PuG BiReG BilKoG
UMAG
BilMoG
VorstAG
AReG
APAReG
Company
law
amendment
Soft Laws,
Standards
GCGC COSO ERM COBIT 4.1 COBIT 5.0 DIN Spec
33456
Supervisory Board Compensation
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 30
Source: Kienbaum (2016)
Determinants of
supervisory
board
compensation
Company
characteristics
Board members’
individual
characteristics
Functions and
tasks within the
board
Market environment
(availability of suitable
candidates, etc.)
Regulations &
liability
(AktG, GCGC, etc.)
Functions and tasks within the board:
• Role of supervisory board with regards to
corporate governance
• Role and function within the board
• Chairmanship or membership in committees
• Competence and temporal requirements
related to the specific function
Board members‘ individual characteristics:
• Specific competences, skills, experience
• Number of board mandates
• Supervisory board membership as main
occupation
Company characteristics:
• Company and board size
• Business model and current situation of the
company as well as resulting competence
requirements
• Degree of internationalization
Supervisory Board Compensation
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 31
GCGC
I. Remuneration of the Supervisory Board
Principle 24:
The members of the Supervisory Board receive remuneration that is appropriate to their tasks
and the situation of the company. Remuneration is specified by resolution of the General
Meeting, or in the Articles of Association, if applicable.
G.17 The remuneration of Supervisory Board members shall take into account, in an
appropriate manner, the higher time commitment of the Chair and the Deputy Chair of
the Supervisory Board, as well as of the Chair and the members of committees.
G.18 Supervisory Board remuneration should be fixed remuneration. If members of the
Supervisory Board are granted performance-related remuneration, it shall be geared to
the long-term development of the company.
Principle 25:
The Management Board and the Supervisory Board prepare an annual remuneration report,
in accordance with legal provisions.
Supervisory Board Compensation
Compensation structure is often simpler than for the executive board compensation:
• Fixed compensation
• Annual bonus
• Long-term incentives
• Attendance fees
• Others.
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 32
Supervisory Board Compensation
Fixed compensation component should not be too small:
• e.g. ratio between 50% and 75%
• Ensure attractiveness of board membership for qualified personnel even in times of crisis
• Compensate board members for their time and effort in a reasonable manner.
German Trade Union Association demands exclusively fixed compensation:
• Monitoring increases with decreasing corporate success
• Variable compensation can impede independence since the supervisory board profits
from the executive board‘s decision.
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Supervisory Board Compensation
Per capita compensation for the year 2015:
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 34
Source: Kienbaum (2015)
Stock exchange
segment
Surveyed
companies
Compensation in TEUR Per capita in TEUR
Supervisory
board total
Per capita Lower
quartile
Median Upper
quartile
DAX 30 2.561,3 156,5 99,7 137,6 193,1
MDAX 45 1.072,3 90,3 63,9 82,6 102,2
SDAX 44 318,7 47,1 28,0 38,8 63,3
TECDAX 27 359,3 56,2 40,7 50,3 70,3
GEX 23 131,0 36,3 23,3 33,7 50,0
Other listed
companies452 119,4 21,9 8,9 15,7 28,4
Not listed 979 135,8 13,7 3,4 7,5 15,0
Supervisory Board Compensation
Development of DAX and MDAX supervisory board and executive board compensation:
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 35
Source: Kienbaum (2016)
Total compensation
executive board
Fixed compensation
executive board
Total compensation
supervisory boardFixed compensation
supervisory board
Board Compensation in the US
Board Compensation in the US
“High pay for outside directors of corporations guts the whole idea of these representatives of
the shareholders making independent judgments. How does a board member challenge a
CEO when the director is being paid oversize amounts likely to be important to his or her
lifestyle?”
- Loomis, C. J., 2010, “Board pay: Unchecked and out of hand”
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 38
Source: Fortune Magazine (2010)
Questionable compensation components
• Guaranteed bonuses
• Re-setting of stock options
• Golden hellos
• Golden parachutes
– Common in the US: e.g. James Kilt, CEO of Gillette, who received $165 m. after the
company was acquired by Procter & Gamble in 2005
– Supposed to ensure that CEOs negotiate advantageous takeover deals even, if they
might lose their position as a consequence of the change in ownership
– Can be part of a ‘poison pill’ strategy to dissuade takeover attempts through the
increase of takeover costs
– Supposed to be of limited applicability in Germany, since the Stock Cooperation Act
(AktG), as well as the GCGC, state that executive board compensation has to be
reasonable in relation to a board member‘s tasks and performance, GCGC
additionally includes a severance cap.
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 39
Board Compensation in the US
Possible determinants of director compensation:
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 40
Source: Brick et al. (2006); Farrell et al. (2008); Bryan et al. (2000), Dah/Frye (2017)
Investment opportunities
Tobin's Q equal to the sum of the market value of equity, liquidating value of preferred stock, and debt
divided by the book value of total assets.
R&D/At ratio of research and development expenses to total assets.
Adv/At ratio of advertisement expenses to total assets.
Liquidity ratio of current assets minus current liabilities to total assets.
Firm complexity
Sales company‘s sales
Employees number of employees
Board meetings total number of board meeting during a given year.
Business segments total number of business segments.
Need for monitoring
Leverage ratio of long term debt to total assets.
PPE/At ratio of property, plant, and equipment to total assets.
Capx/At capital expenditures to total assets.
CEO ownership ppercentage of the firm's equity that is held by the CEO.
Performance and risk
ROA return on assets
CF/At ratio of operating cash flow to total assets.
Volatility standard deviation of the firm's daily returns during a given year.
Board Compensation in the US
Possible determinants of director compensation:
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 41
Source: Brick et al. (2006); Dah/Frye (2017)
Governance and rent extraction
Percentage Insiders The percentage of board members who are insiders.
Board Size The total number of board members.
Director Tenure Average tenure of all directors in a given firm.
Director Age Average age of all directors in a given firm.
Director Interlock Average number of other boards served on by the firm's directors.
Percentage Female The percentage of board members who are female.
Gender The CEO’s gender.
E-index Entrenchment index presented by Bebchuk et al. (2009).
Duality CEO is simultaneously chair of the board of directors.
CEO age The CEO's age.
Industry Industry the company operates in.
Board Compensation in the US
How does excess director compensation affect the firm's internal monitoring?
• Overcompensation may act as an incentive for board members to exert more effort and,
thus, improve the soundness of the firm's governance structure.
• It is possible that excess compensation leads to more monitoring as directors may feel
beholden to shareholders to work hard and retain their high pay.
• Alternatively, the surplus in director compensation might indicate that directors are
entrenched and not effective monitors.
• Brick et al. (2006) suggest that excess director compensation is associated with a culture
that does not allow for constructive criticism.
• Directors may be hesitant to destabilize the status quo and jeopardize their positions and
compensation.
Univ.-Prof. Dr. Marc Eulerich Advanced Corporate Governance | WS 2019/20 42
Source: Dah/Frye (2017)
Board Compensation in the US
For the firms that overcompensate their directors:
• CEO turnover-performance sensitivity is lower
• thus, the overpayment of board members provides the CEO with additional immunity and
job security.
For undercompensated directors:
• no significant effect of excess compensation on turnover-performance sensitivity
• however, some evidence that undercompensated directors may be more likely to replace
underperforming CEOs
• evidence consistent with cronyism between directors and CEOs: excess director
compensation is positively related to CEO total compensation
• excess compensation for overcompensated directors reduces CEO pay-for-performance
sensitivity, which supports the notion that overcompensation leads to less monitoring.
Overall, findings suggest that director excess compensation may be a sign of board
entrenchment, where overcompensated directors are not necessarily focused on
protecting shareholder interests.
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Source: Dah/Frye (2017)