Executive Cash Compensation As The Proxy For The Ceo 's Level Of Risk Aversion

In “The Overpaid CEO” Susan Homberg and Mark Schmitt bring to attention how CEO pay in America is ridiculous in numbers as opposed to other parts of the world. Looking back, in the nineteen hundreds CEO pay was relativity average. As businesses and companies began to expand there was a demand for higher pay. Between 1978-2012 CEO pay increased by 875%! Many rules and regulations were put in to place to limit the pay of a CEO, such as the Securities Exchange Act that I will explain later on, regardless CEO pay kept getting higher and higher as many loopholes were found. Bonuses pay a large part in the salaries of CEOS’, as an effect CEOS’ tend to partake in risky behavior in order to score those big paychecks.

This paper will discuss the reasons why CEOs are not being overpaid. It will apply the utilitarian ethical principle to many a few aspects to CEO compensation and whether or not it is justifiable for such pay. The paper will look at whether or not their performance is justifiable for the pay because they play such a big role in the livelihood of the company along with the principle agency theory and how it is being addressed for the benefit of the shareholders and others involved with the company, the supply and demand of the CEOs, and the paper will describe the comparison of other professions to help link the idea of CEOs being fairly compensated.

2.Shareholders want high long-term profits. Managers want job security and wonderful perks and amenities. Since risk and return tend to be positively related, managers may wish to avoid risks that shareholders want the managers to undertake. To encourage managers to take on risks, compensation committees can place a greater weight of their compensation on long-term incentives such as stock, options to buy stock, and bonus based on surpassing the performance of comparable firms over several years. When all

The economic downfall of 2008 illustrates the impact of unbridled corporate pay structures on our economy. Securities fraud, committed as a result of incentive packages offered to executives to create quick profits, had a detrimental effect on the overall economy. As observed during the Bank and Loan bust of 1989, CEOs take greater risks when offered stock options in their compensation packages. The 2008 Financial crisis, sparked by subprime mortgage market and hedge funds, was driven by banking executives making short term risks that served detrimental to stockholders in the long run. Furthermore, many compensation packages offered Golden Parachute clauses with no claw backs to both performing and underperforming executives.

While these citizen protests and legislative actions could be an overreaction to a few isolated cases of executive compensation excess, the data suggests otherwise. According to the AFL-CIO (2013), executive pay has increased dramatically over the past several decades compared to worker compensation. In 1982, the pay ratio between executives and workers was 42:1, but by 2012 it had increased to 354:1. This 8.4-fold differential in compensation suggests that the productivity of executives has also increased 8.4-fold relative to productivity of workers. If executive pay is positively correlated with a firm's bottom line, then higher pay should predict success. Unfortunately, researchers have found the opposite to be true.

However, two known authors in this field of study believe that companies with low business risk obtains factors of production at a lower cost which may also pave to the ability of the firm to operate more efficiently (Amit & Wernerfet, 1990). Therefore, many stockholders faced a high of uncertainty; this is because some companies do not have the financial strengths to cover its debts that even may result to bankruptcy.

Directors have awarded compensation packages that go well beyond what is required to attract and hold on to executives and have rewarded even poorly performing executives. These executive pay excesses come at the expense of shareholders as well as the company and its employees. Furthermore, a poorly designed executive compensation package can reward decisions that are not in the long-term interests of a company. Excessive CEO pay is essentially a corporate governance problem. When CEOs have too much power in the boardroom, they are able to extract what economists' call "economic rents" from shareholders (Economic rent is distinct from economic profit, which is the difference between a firm's revenues and the opportunity cost of its inputs). The board of directors is supposed to protect shareholder interests and minimize these costs. At approximately two-thirds of US companies, the CEO sits as the board's chair. When one single person serves as both chair and CEO, it is impossible to objectively monitor and evaluate his or her own performance.

The rise of the stock option is one aspect in which Handy places blame. Thirty years ago, only 2% of executives’ pay was tied to stock options and has grown to over 60% today (Handy, 2002, p. 50). The reason for stock option popularity is because it allows executives to reap financial gains sooner rather than waiting on future generations. Handy (2002) also reveals that another aspect that fuels corporate distrust is that of executive wages sometimes being 400 times that of their lowest-paid workers (p.

Increased leverage would increase the risk for the shareholder. This is due to the fact that an increased amount of debt would increase the financial return that investors expect. For example, if a company has no debt and posts better than expected earnings, the equity holder would get all of this benefit. If the company had some debt and posted better than expected earnings, the bond holders would get a fixed payment as usual, and shareholders would still enjoy increased profits; the problem arises if worse than expected profits were shown by Kelly Services. If Kelly Services had no debt and posted bad earnings, then the equity bears all the risk in that situation. However, if Kelly

It was reasonable for a CEO’s compensation to increase as the company expanded and became a larger entity, and the newly-granted shares and increasing stock options further aligned the CEO’s personal interests with those of the company and shareholders. In this sense, the second compensation package was also well-structured and not excessive. Seeing Sunbeam’s revenue rising and stock price climbing steeply upwards, Sunbeam’s shareholders and directors were fully convinced by Dunlap’s leadership, so they might perceive the increase in compensation amount necessary to retain and better motivate Dunlap to enhance the company’s value. Nonetheless, they neglected the fact that the increased portion of the equity-based compensation also further motivated the CEO’s dangerous behaviors pertaining to improper earnings management.

A recent study by Xue Wang (Emory University) tackles how SOX has affected the compensation and turnover rates of CFOs.   They play a critical role in developing firms’ financial reporting and making voluntary disclosure decisions.   Moreover, CFOs are ultimately responsible for the quality of internal control systems.   The study provides some important insights about the impact of SOX on the executive labor market.   It shows that requiring more disclosure of information about a firm’s internal controls provides some positive benefits with respect to corporate governance, in this case making it easier for boards to monitor the activities of CFOs.   In comparing and contrasting firms with strong internal controls received an increase in salary, bonus, and total compensation in the post-SOX time periods.   In contrast, CFOs of corporations reporting a problem with their internal controls incurred a significant reduction in their compensation packages.   With respect to CFO turnover, Wang did find that CFO turnover rates generally increased form the pre- to post-SOX period.

Given the effect a CEO can have on a company's success, we can understand why their compensation packages

A capital structure policy aims to balance the trade-off between the benefits of debt financing (interest tax shield) and the costs of debt financing (financial distress and agency costs). Every firm should set its target capital structure such that its cost and benefits of leverage ultimately maximise the firm’s value. Graham and Harvey asked 392 firms’ chief financial officers whether they use target debt ratios. Results show that the majority of them do, although the level of strictness of the target policy varies across different companies. Only 19% of the firms avoid target ratios, of which most are likely to be the relatively smaller firms. This clearly

Executive incentives also took part in boosting risk, which illustrates as well the irresponsibility of the companies.

If the firms funding requirements are larger than their retained earnings, they must issue debt as this is preferred to issuing equity. Based on this theory, a firm’s financing policies could be viewed as signalling management’s view of the firm’s stock value (Wang & Lin 2010).Myers and Majluf (1984) also add that if firms issued no new securities but only used its retained earning to support the investment opportunities, the information asymmetric could be resolved. This suggests that issuing equity turn out to be more expensive as asymmetric information insiders and outsiders increase. Large firms should then issue debt to avoid selling under priced securities. As the requirement for external financing increases, businesses will work down the pecking order, from safe to riskier debt, perhaps to convertible securities or preferred stock, and finally to equity as a last resort. Each firm's debt ratio therefore reflects its cumulative requirement for external financing (Myers 2001).The pecking order theory clarifies why the bulk of external financing comes from debt. It also describes why organizations that are more profitable borrow less: since their goal debt ratio is, low-in the pecking order they do not have a goal since profitable firms have more internal financing available.