Credit Rating Changes and CEO Incentives

41 Pages Posted: 16 Mar 2007

See all articles by Qiang Kang

Qiang Kang

Florida International University (FIU) - Department of Finance

Qiao Liu

The University of Hong Kong - School of Economics and Finance; Peking University - Guanghua School of Management

Date Written: February 2007

Abstract

We document that credit rating changes significantly affect chief executive officer's (CEO's) incentives. Modeling both credit rating changes and CEO incentive changes as two jointly endogenous processes, we present strong evidence that CEO incentives increase subsequent to credit downgrades and, to a much weaker extent, decrease after credit upgrades. A one-notch downgrade in the credit rating improves CEO incentives by about 15%. We also find that the impacts of credit rating changes on CEO incentives are greater for firms with more distorted incentive contracts. Our analysis favors a corporate-governance-based argument and suggests that rating agencies', or more generally, debt- holders', monitoring complements equity-based incentive contracts to mitigate agency conflicts between managers and shareholders.

Keywords: credit rating changes, CEO incentives, corporate governance

JEL Classification: D80, G14, G34, J33

Suggested Citation

Kang, Qiang and Liu, Qiao, Credit Rating Changes and CEO Incentives (February 2007). Available at SSRN: https://ssrn.com/abstract=971277 or http://dx.doi.org/10.2139/ssrn.971277

Qiang Kang (Contact Author)

Florida International University (FIU) - Department of Finance ( email )

University Park
11200 SW 8th Street
Miami, FL 33199
United States

Qiao Liu

The University of Hong Kong - School of Economics and Finance ( email )

School of Economics and Finance
Pokfulam
Hong Kong
Hong Kong
852-2859-1059 (Phone)
852-2548-1152 (Fax)

Peking University - Guanghua School of Management ( email )

Peking University
Beijing, Beijing 100871
China

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