Creditor Control Rights and Executive Bonus Plans

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See all articles by Chris Armstrong

Chris Armstrong

University of Pennsylvania - Accounting Department

John D. Kepler

Stanford Graduate School of Business

Chongho Kim

New York University

David Tsui

University of Southern California - Marshall School of Business

Date Written: December 1, 2021

Abstract

We study whether and how creditors exercise their control rights to shape their borrowers’ executive compensation plans. Highly levered borrowers often face incentives to underinvest due to agency conflicts driven by differences in time horizon and risk-taking preferences between managers and creditors. Thus, we expect that creditors exert their control to ensure that their borrowers’ executive compensation plans encourage investments with longer-term payoffs and provide more direct rewards for profitable outcomes. We also argue that executives’ bonus plans become relatively more important in these instances because their flexibility (e.g., potentially non-linear and non-monotonic payoffs) allows creditors to target specific investment objectives. We find that borrowers’ bonus plans tend to have longer horizons and more convex payouts when their creditors acquire more control following covenant violations. Our evidence suggests that creditors exercise their influence to shape their borrowers’ executive compensation plans in ways that protect their interests.

Keywords: bonus plans, control rights, creditors, executive compensation, managerial incentives

JEL Classification: G34, J3, M12

Suggested Citation

Armstrong, Chris S. and Kepler, John and Kim, Chongho and Tsui, David, Creditor Control Rights and Executive Bonus Plans (December 1, 2021). Available at SSRN: https://ssrn.com/abstract=

Chris S. Armstrong

University of Pennsylvania - Accounting Department ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

John Kepler (Contact Author)

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States

Chongho Kim

New York University ( email )

40 West 4th Street
Suite 10-180
New York, NY 10012
United States
5129987313 (Phone)

David Tsui

University of Southern California - Marshall School of Business ( email )

3660 Trousdale Parkway
Los Angeles, CA 90089
United States

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