On February 9, 2023, presenter Mary Ellen Carter gave the lecture “Executive Compensation”
The Q&A from Mary Ellen’s lecture is below.
 Why didn’t the CEO pay ratio have the intended effect on the level of CEO pay?
One possibility is that the pay ratio is a recent disclosure and it might be hard to detect patterns, particularly with 2020 and the pandemic included in the time series. Also, the absolute level of pay ratios are not super meaningful because they vary across industries – a relative comparison within industry makes more sense. But there have been early studies about excess pay and the role of the media that suggest that sensationalism can reign in excess pay.
 What are proxy advisors looking for? Egregious high pay? How plans are structured? What is their role here? How much influence do they have?
Studies have documented that proxy advisors have significant influence on the final SOP voting outcome. Securing their approval of compensation plans is a reasonable strategy for firms. ISS publishes its guidelines each year and the guidelines include all that was mentioned – levels of pay, forms of pay, particular provisions in the contracts, etc. There is not one thing they are looking for.
 Why is complexity related to worse performance? Is that just rent extraction or poor governance?
It could be that bad boards write bad contracts and they are in charge of bad firms that have poor performance. We control for governance so that doesn’t seem to be the dominant explanation. Another potential explanation is that board are trying to obfuscate higher pay. But we try to rule that out by documenting that complex contracts do not have higher payouts. Finally, we considered that poor performing firms add performance measures to the existing contract to make sure the CEO can meet some targets. But we try to rule this out by documenting that we continue to see poor future performance using a measure of complexity that excludes the number of performance measures. So, these do not seem to be dominant explanations for the relation we document. Our interpretation of the evidence is that the contracts affect CEO performance through cognitive overload.
 Hello. I would like to know Dr. Carter opinion about capital structure influence on executive compensation, specially in family-controlled firms. Thank you
There is research on family firms. I’m not as well-versed so I would recommend checking out the literature reviews.
 What impact do you think the new SEC pay-performance disclosure rule might have on contracts?
One possible effect is that compensation will be more strongly linked to performance. Shareholders will be able to more easily see whether and how CEO compensation is aligning with performance.
 It seems like regulators are consistently trying to incentivize firms to lower CEO pay, but the labor market essentially prevents firms from substantially lowering pay. Is it possible that the labor market is operating efficiently, but resulting CEO pay is still non-optimal for investors?
The labor market could be leading to a ratcheting up of pay levels. As peers increase pay, firms need to meet CEOs’ reservation wage to retain them. If the firm is better off with the particular CEO than without them, then they higher pay is not necessarily sub-optimal.
 Factors such as bonus vs. penalty contracts or compensation contracts tied to relative performance evaluation (RPE) can lead to misreporting and risk taking. Does the complexity of compensation contracts lead to more risk taking and more earnings management from CEOs? Should boards consider limiting the complexity of contracts?
It is certainly possible that contract complexity is leading to more risk-tasking or earnings management. That RPE might lead to misreporting seems more difficult to me because the CEO would have to be managing to a moving target (namely peer performance). Our study suggests that board should be limiting the complexity of contracts because they may be impeding firm performance.
 How would you work out if a contract is efficient?
This is where the survey paper by Edmans et al has some interesting views. An efficient contract may include features that satisfy other parties because it may make sense to avoid controversy. But in my opinion, it is nearly impossible to look at a contract and decide that is efficient. I think it is determined down the road when you can see performance and see that the CEO took the right actions.
 I’m not sure how common this is, but when CEOs are on the Board of Directors what is the effect on their compensation? How do markets react?
When the CEO also serves as Chair of the Board, this is viewed as problematic under the “rent extraction view” of compensation — the CEO can unduly influence their compensation. But under the efficient contracting view, the CEO has a bigger job and therefore should have higher pay than a CEO who does not serve in the dual roles.
 To what extent do Compensation Committees retain discretion to adjust, in exceptional circumstances, the outcomes of performance pay – for example, when there is a pandemic or a period of unexpectedly high inflation – and to what extent do they exercise such discretion and what influences them them do so (or not)?
Compensation committees do retain discretion. In the proxy statements, it is frequently described as negative discretion – the ability to not pay compensation that might appear to have been earned. This was done to retain tax-deductibility under 162(m). Firms were cutting pay during the pandemic. They were revisiting performance measures in contracts. The use of discretion, under the efficient contracting view, would be appropriate precisely under circumstances like the pandemic when the impact on performance is out of the CEO’s control.
 TSR (and relative TSR, and multi-year TSR) seems to be the new super-metric. But, what are the pros and cons? Is it a mistake?
On the one hand, TSR is great metric for aligning the CEO’s interests with shareholder. This is why some institutional investors see value in using it contracts. But for some firms, TSR might not be the best measure of the CEO’s performance. There may be other performance measures that better capture the unique circumstances of the firm. So taking a “one size fits all” approach by using only TSR may not be best.
 Do you know if there is a spillover effect of CEO compensation complexity on rank-and-file employees? Does complexity result in lower employee morale or more turnover?
I have not seen any studies on this. Rank-and-file contracts are not publicly disclosed.
 How does the level of CEO compensation affect the firm’s employees? Do employees work harder if their CEO’s compensation is lower/reduced? How does CEO compensation impact the culture of the firm?
Opponents of disclosing the CEO pay ratio believed that a high ratio would lead to lower employee morale. A recent study shows that high “unexplained” pay, versus high pay that is justified, is related to lower future performance. The implication is that lack of pay fairness affects employees’ morale and therefore performance.
 Many recent studies point toward contracts becoming less diverse. In your paper, do you observe evidence of them becoming more complex but on similar aspects? Are contracts becoming similarly complex?
Contract complexity is influenced by peer contract complexity. Firms are matching not only peer compensation levels but also particular attributes of peer pay (for example, granting performance shares when peers grant performance shares). This suggests that they are becoming similarly complex.
 Do we know if CEOs quit or shirk if their compensation is too low?
I’m not aware of studies that have examined this. Theory would predict that a CEO would not accept a contract if the compensation was below the “reservation wage”.
 Curious the extent to which the literature has addressed the use of non-pecuniary-based forms of compensation?
Several studies have examined the use of perquisites, particularly as it relates to the “rent extraction” view of compensation.
 I have never seen an ISS peer group that matches company peer group. Are company consultants who define peer groups just off?
Amended proxy statements often address the question of the peer group chosen by the proxy advisor (particularly when it leads to a negative recommendation). I don’t think this means the companies or consultants are “off”. Companies in multiple lines of business or who compete for talent in a broader labor market often have a more diverse set of peer firms.
 Is stock performance the only yardstick in the assessment of executive in the speaker’s paper? There are so many factors impacting on stock performance, but why the executives are the only beneficiaries from stock performance not other employees?
In our paper, we measure firm performance as both stock performance and accounting performance.
 What 1-2 questions would you encourage an institutional investor ask management to assess whether the ESG metrics they’ve tied to comp are strategically relevant or if they’re more of a box-checking exercise?
The “box checking” would be like a greenwashing view — that the metrics are being added because firms want to give the appearance of trying to create ESG incentives. The questions I would ask are “why are you including them?” and “how are you measuring whether metrics are met?” The latter question in particular could provide insight into whether the metrics are sufficiently motivating.
Professor Mary Ellen Carter studies the effects of financial reporting and regulation on incentives and executive compensation. Recent research includes gender pay gaps, labor market pressures on compensation and the influence of compensation consultants on CEO pay. She has published in top academic journals including Journal of Accounting and Economics, Journal of Accounting Research, The Accounting Review, Review of Accounting Studies, and Journal of Financial Economics. In addition, she has been featured in Forbes and the Financial Times, as well as other business media. She is currently an editor at the Journal of Management Accounting Research and associate editor at Management Science.
She has a bachelor’s degree in accounting from Babson College, an MBA from Boston College, and a Ph.D. from the Sloan School of Management at MIT. Before joining the faculty at Boston College, she was an assistant professor at the Columbia Business School of Columbia University and at The Wharton School of the University of Pennsylvania. She is a CPA and, prior to her academic career, she worked for Coopers & Lybrand in Boston as a senior associate on the audit staff.
For further information on the webinar please contact Professor Jun Yang, Director of the Institute for Corporate Governance at firstname.lastname@example.org.