Managerial Incentives for Risk-Taking and Internal Capital Allocation

Posted: 25 Aug 2017

Date Written: November 15, 2016

Abstract

In this study, we show that the option-like structure of equity-based compensation encourages managerial risk-taking and provide new evidence on the way in which CEO’s risk-taking could manifest itself in a multi-segment firm. Our results show that a greater sensitivity of managerial compensation to shareholder wealth — as proxied by CEO’s portfolio vega — leads to greater risk-taking through active capital allocation. We then analyze the impact of risk-taking on shareholder wealth and demonstrate that risk-taking is positively associated with future stock returns. Overall, this article contributes to the literature by providing evidence that equity-based compensation does actually promote the alignment of interests between shareholders and managers.

Keywords: Equity-Based Compensation, Internal Capital Allocation, Risk-Taking

JEL Classification: G30, M12

Suggested Citation

Casavecchia, Lorenzo and Suh, Ja Young, Managerial Incentives for Risk-Taking and Internal Capital Allocation (November 15, 2016). Australian Journal of Management, Vol. 42, No. 3, 2017, Available at SSRN: https://ssrn.com/abstract=3024556

Lorenzo Casavecchia (Contact Author)

University of Technology Sydney ( email )

8 Ultimo Rd
Sydney, NSW 2007
Australia

Ja Young Suh

Independent ( email )

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