Equity vs. Inside Debt Compensation of CEOs and Firm Performance: New Evidence

This paper provides new evidence on the comparative effects of CEO inside debt and the components of equity compensation on firm valuation as measured by Tobin’s Q. We find empirical evidence for the classic Jensen and Meckling (1976) premise that managers should be granted debt and equity in proportion to the ownership structure of the firm. We disaggregate the compensation structure into two components of inside debt: deferred compensation and accumulated pension. We also consider the four components of equity: including unvested shares, stock awards, estimated value of in-the-money unexercised options, as well as the estimated value of all other option awards. We also consider salary and bonus as short term incentives. We find that the effects of the different components of CEO compensation are dependent on the CEO’s time horizon, as measured by the expected period of employment to retirement