The Relation Between Corporate Governance and CEOs’ Equity Grants

Abstract

We investigate whether the firm’s corporate governance affects the value of equity grants for its CEO. Consistent with the managerial power view, we find that more poorly governed firms grant higher values of stock options and restricted stock to their CEOs after controlling for the economic determinants of these grants. We show that the negative relation between governance strength and equity grants is not likely to be attributable to omitted economic factors or substitution effects between governance strength and equity incentives. As further evidence consistent with the managerial power view, we show that firms with poorer governance in the pre-Enron era cut back more on using employee stock options (ESOs) for their CEOs in the post-Enron era, a period when the accounting and outrage costs of ESOs increased, consistent with poorly governed firms taking more advantage of opaque ESO accounting rules than better governed firms. We show that the association between governance strength and abnormal equity grants is less negative in the post-Enron period than it was in the pre-Enron period, consistent with firms making more efficient equity-granting decisions after the corporate governance changes mandated by the Sarbanes-Oxley Act of 2002 and the major US stock exchanges took effect.

Keywords: Corporate Governance, Executive Compensation, Stock Options, SFAS 123R, Corporate Governance, Sarbanes-Oxley

JEL Classification: G30, G34, J31, J33