The Role of Equity Compensation in Reducing Inefficient Investment in Labor
43 Pages Posted: 17 Aug 2017
Date Written: April 15, 2017
We examine whether equity compensation incentivizes managers to make efficient labor investment decisions. Specifically, we examine whether and how the components of equity compensation – stock options and restricted stock – affect over- (under-) investment in labor. We find that stock options exacerbate (mitigate) over-investment (under-investment) in labor, while, suggesting that giving stock options to managers encourages (discourages) them to over- (under-) invest in labor. In contrast, restricted stock mitigates both over-investment and under-investment in labor, so granting restricted stock to managers discourages them from over- and under-investing. Our results are consistent after controlling for managerial ability and corporate governance. Overall, our research demonstrates that stock options and restricted stock matter in managers’ labor investment decisions.
Keywords: Over-investment, under-investment, labor, stock options, restricted stock, agency, human capital, empire-building, risk-aversion
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