CEO Compensation and Turnover: The Effects of Mutually Interlocked Boards

Abstract:     
The recent wave of revelations involving corporate governance problems has created significant interest in the relationships between chief executive officers (CEOs) and their boards of directors. In this paper we focus on one important but previously uninvestigated characteristic of boards: the tendency of many boards to have two (or more) directors who are also members of another company's board. We define this relationship as a mutual interlock. We explore the consequences of this phenomenon for CEO compensation and CEO turnover.

Our empirical analyses - conducted for a sample of 366 large companies, in which 87% of the companies have at least one mutual interlock - show that CEO compensation tends to be higher and CEO turnover tends to be lower when the CEO's board has one or more pairs of board members who are mutually interlocked with another company's board. There are two possible interpretations of these results. One is that the mutual interlocks are an indication of and a contributor to CEO entrenchment, and the higher compensation and lower turnover follow from this entrenchment. The other is that the mutual interlocks are an indication of the strengthening of an important and valuable strategic alliance for the company, and the higher CEO compensation and lower turnover are the CEO's reward for arranging the alliance. We believe that the first interpretation is more accurate, for the reasons discussed in the paper.

Keywords: Interlocks, CEO Compensation, CEO Turnover

JEL Classification: G35, K22, D23

Accepted Paper Series