Managerial Ownership and Employee Risk Bearing

41 Pages Posted: 15 Jan 2009 Last revised: 14 May 2014

See all articles by Ye Cai

Ye Cai

Santa Clara University - Leavey School of Business

Merih Sevilir

Indiana University - Kelley School of Business - Department of Finance

Edward Dickersin Van Wesep

University of Colorado at Boulder - Department of Finance

Sean Wang

Southern Methodist University

Date Written: February 12, 2010

Abstract

Executives who own a stake in the firm that they manage tend to be under-diversified and therefore have an incentive to take real actions to smooth earnings. Using a simple principal-agent model, we show that management will use variable pay to transfer risk to employees. The variability of pay used should be increasing in managerial ownership. We find support for this theory in the data: a ten percent increase in executive ownership translates to a 14 percent increase in the variability of option grants per employee and a three percent increase in the variability in employment. That is, when management ownership is higher, employees have a greater risk of being fired and greater variability in pay. Financing constraints also provide a motivation to shift risk to employees. We find that the effect of such constraints may be felt most by employees not via the mix of compensation elements, but via risk of job loss.

Keywords: Compensation, Stock Options, Real Earnings Management, bonus pay

JEL Classification: G34, J33, M55

Suggested Citation

Cai, Ye and Sevilir, Merih and Van Wesep, Edward Dickersin and Wang, Sean, Managerial Ownership and Employee Risk Bearing (February 12, 2010). AFA 2011 Denver Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1327178 or http://dx.doi.org/10.2139/ssrn.1327178

Ye Cai

Santa Clara University - Leavey School of Business ( email )

500 El Camino Real
Santa Clara, CA California 95053
United States

Merih Sevilir

Indiana University - Kelley School of Business - Department of Finance ( email )

1309 E. 10th St.
Bloomington, IN 47405
United States

Edward Dickersin Van Wesep (Contact Author)

University of Colorado at Boulder - Department of Finance ( email )

Campus Box 419
Boulder, CO 80309
United States

Sean Wang

Southern Methodist University ( email )

P.O. Box 750333
Dallas, TX 75275-0333
United States
2147682858 (Phone)

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