“Executive Compensation: The Role of Inside Debt and Vesting Equity in Aligning Incentives and Managing Risk. Part III”

Abstract

Investor perceptions of executive equity pay incentives and their impact on corporate bond prices are examined in this article. In 
theory, bond investors would not require high premiums on corporate bonds if executives’ equity vesting was perceived as an indication of their concern for short-term price movements. A panel data analysis is conducted using a sample of 6,776 US-listed firms from 2006 to 2017, controlling for industry, year, and firm-fixed effects. Overall, findings show that CEOs with equity vesting in the immediate year become more sensitive to short-term price volatility, influencing corporate risk-taking decisions. Two key findings are presented: first, CEOs with vesting equity are associated with a narrow bond yield spread, which indicates investors perceive these firms to have a lower credit risk. The negative association becomes more pronounced for firms with young and short-tenured CEOs, short-maturity bonds, low-credit-rated firms, firms with low credit and short-maturity bonds, and low z-score firms with a short maturity. Based on this, the second finding confirms that CEOs with vesting equity tend to take fewer corporate risks. As a result of this reduced risk-taking, investors perceive corporate bonds offered by companies whose CEOs have equity vesting as having a lower credit risk, thereby requiring lower premiums. Multivariate regression results confirm the robustness of these results