Risk-Taking Incentives and Returns on R&D Investment

52 Pages Posted: 15 Mar 2018

See all articles by Bruce K. Billings

Bruce K. Billings

Florida State University - Department of Accounting

James Moon

Georgia Institute of Technology - Scheller College of Business

Richard M. Morton

Florida State University - Department of Accounting

Dana Wallace

University of Central Florida - School of Accounting

Date Written: March 15, 2018

Abstract

Traditional finance theory suggests that riskier investments should yield higher returns. Challenging this notion, anecdotal and empirical evidence suggests that highly-incented managers may take on excessive risk, leading to greater losses, while other theoretical research argues that high levels of option-based compensation may actually lead to greater risk aversion, resulting in lower return investment choices. Therefore, we assess whether incentives associated with stock option compensation (“vega”), presumed to increase managers’ appetite for risk, uniformly yield higher returns on R&D investment. Our results suggest that the return on R&D, as measured by future earnings and patent awards, varies concavely with vega. That is, low to moderate levels of vega correspond to increasing returns on R&D, consistent with vega inducing more profitable investments, but marginal returns decline as vega increases. Supplemental analyses suggest that these results are driven by greater risk aversion rather than excessive risk-taking. Overall, our results imply that risk-taking incentives (i.e., vega) may prove counterproductive.

Keywords: Executive Compensation, Managerial Incentives, Risk-Taking, Research and Development

JEL Classification: G31, G32, G34, G35, J33, M41, M52

Suggested Citation

Billings, Bruce K. and Moon, James and Morton, Richard M. and Wallace, Dana, Risk-Taking Incentives and Returns on R&D Investment (March 15, 2018). Georgia Tech Scheller College of Business Research Paper No. 18-19. Available at SSRN: https://ssrn.com/abstract=3141196 or http://dx.doi.org/10.2139/ssrn.3141196

Bruce K. Billings (Contact Author)

Florida State University - Department of Accounting ( email )

Rovetta Business Bldg. (RBA)
College of Business
Tallahassee, FL 32306-1110
United States
850-644-7889 (Phone)
850-644-8234 (Fax)

James Moon

Georgia Institute of Technology - Scheller College of Business ( email )

800 West Peachtree St.
Atlanta, GA 30308
United States

Richard M. Morton

Florida State University - Department of Accounting ( email )

Room No. 421
Tallahassee, FL 32306-8234
United States
850-644-7877 (Phone)

Dana Wallace

University of Central Florida - School of Accounting ( email )

Kenneth G. Dixon School of Accounting
P.O. Box 161400
Orlando, FL 32316-1400
United States

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