Effects of executive compensation on managerial decisions

The potential for agency conflict, due to separation of ownership and control, is an important issue for corporations, investors, and regulators. Although the goal of any firm is to maximize the wealth of owners through the maximization of the stock price, a conflict of interest may exist in companies in which decision-makers own less than 100 percent of the firm. Instead of looking after the best interest of the firm and its principals, agent-managers may seek to maximize their personal wealth, or decide to lead a more relaxed life and managerial style. Previous research shows that CEOs who are given annual bonuses, usually based on accounting profitability, may focus too much attention on short-term profits, at the expense of the long-term health of the company. This thesis examined 29 leading companies, in terms of sales, to determine empirically if a relationship exists between executive compensation, as measured by bonuses and stock options/appreciation rights, and discretionary expenditures (advertising, research and development expense, and capital expenditures). Using regression analysis, this thesis examined the relationship between the ratio Of long-term compensation to short-term compensation and advertising expense, research and development expense, capital expenditures, and stock return. Advertising and research and development expense were directly related to the compensation ratio; capital expenditures and stock returns were inversely related to the compensation ratio. Of these four relationships, only advertising expense was found to be a statistically significant explanatory variable. While the results are not consistent with the earlier study, they do raise some interesting issues that should be addressed in future research. For example, why is there no statistically significant relationship between compensation package structure and research and development expense or capital expenditures in this data set, when this relationship was documented by an earlier study? Why is there no significant, direct relationship between shareholder wealth and an executive\u27s long-term to short-term compensation package? And what is the future outlook for the executive compensation debate and other empirical studies