A new study: How overpaid CEOs tank their firms
Quite interesting article, I will copy the summary of the paper here:
We find evidence that CEO pay is negatively related to future stock returns for periods up to three years after sorting on pay. For example, firms that pay their CEOs in the top ten percent of excess pay earn negative abnormal returns over the next three years of approximately -8%. The effect is stronger for CEOs who receive higher incentive pay relative to their peers. Our results appear to be driven by high-pay induced CEO overconfidence that leads to shareholder wealth losses from activities such as over investment and value-destroying mergers and acquisitions.
So, overpaying the CEO leads to worse stock performance, who woulda thought? It seems that some hedge fund managers (who often own controlling amounts of company stock) are now looking at pushing back because they see the ‘investment’ in compensation as a loser. (It is kind if ironic to me that hedge fund managers, who, as a class, are grossly overpaid, might wind up corralling CEO pay.) Nothing gets the attention of Wall Street types like consistently under performing the stock market, maybe this will result in a dampening of these idiotic baseball player compensation.
I am also not very sure about this statement:
Cooper, who previously ran a firm at Goldman Sachs, doesn’t go as far as to say that higher incentive pay causes overconfidence. Maybe executives who are overconfident just tend to demand higher remuneration. After all, the reason CEOs earn so much in the first place is largely a supply and demand effect, he says. Running a large firm requires a rare and specific skill set, and because so few people can do that, Cooper says, that bids up the price.
I know a thing or three about corporate management (got an MBA, after all, back when getting one actually meant something) and I can say with some assurance that while not everyone is capable of managing managers (what is necessary at the CEO level of large organizations), neither is it a skill so rare that baseball player salaries are necessary. Lots and lots (and lots!) of people, even without formal education, have the skill set to manage at that level so I can state with very high confidence that it doesn’t take multi-million dollar compensation packages to get people with these skill sets.