High CEO Compensation Hurts Shareholders
High levels of chief executive officer () compensation hurts future stock returns. An analysis of mostly S&P 1500 Super Composite firms over the period of 1994 through 2011 found a negative correlation between size- and industry-adjusted CEO compensation and future one- and three-year share price performance. The effect was strongest for CEOs who both receive high levels of incentive pay and are overconfident.
Companies in the highest decile of excess pay saw their stock returns lag by between 4.67% and 5.83% over the following 12-month period, depending on how the portfolios were weighted (compensation, valuation and market capitalization). The lag worsens to a range of 7.96% to 10.78% when a three-year return period is used. This compares with what the study’s authors describe as “insignificant abnormal returns” for companies with the lowest relative level of excess pay.
The poor performance is even worse for those companies ranking in the highest excess pay decile with high incentive pay (total compensation less total cash compensation). These companies saw their stocks underperform by 4.85% over a one-year period and 9.38% over a three-year period. Incentive compensation accounts for 91% of total compensation for firms ranking in the top 2% of excess CEO pay.
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