Is There a Dark Side to Incentive Compensation?

Abstract

We report a significant positive association between the likelihood of securities fraud allegations and a measure of executive stock option incentives. This relation is robust to the inclusion of other components of the compensation structure and to other possible determinants of fraud allegations. In addition, we find that the positive relation between the likelihood of fraud allegations and option intensity is stronger in firms with higher outside blockholder and higher institutional ownership. These findings support the view that stock options increase the incentive to engage in fraudulent activity, and that this incentive is exacerbated by institutional and block ownership.

Keywords: Fraud, Incentive, Compensation, Board Structure, Option

JEL Classification: G30