Dr. Matthew Valle (Department of Management) and Dr. Robert Pavlik (Department of Accounting and Finance) have been notified that their manuscript “Predicting the Investment Decisions of Managers
Under the Influence of Stock Option Incentives” has been accepted for publication in an upcoming issue of the Journal of Management Research. An excerpt of the manuscript follows:
There is no doubt that the subject of executive compensation has received a lot of attention lately (Bebchuk & Fried, 2004; Chowdhury & Wang, 2009; Devers et al., 2007; Hall & Murphy, 2003; Hymowitz, 2006; Kaplan, 2008; Lashinsky, 2006; Tully, 2006; Zhang et al., 2008). The most profound changes involve the increased use of stock options as a form of compensation (Bebchuk & Fried, 2004; Sanders, 2001; Sanders & Hambrick, 2007) and the related record sums garnered by those executives who have exercised options in recent years (Kaplan, 2008; Murphy, 2002; O’Byrne & Young, 2006; Tully, 2006).
The rationale supporting the inclusion of stock options as a significant component of the total pay mix is that managerial interests will be more closely aligned with those of shareholders when managers have a vested interest in firm performance, as measured by stock price appreciation (Hall & Murphy, 2003). This alignment of interests, or “pay-for-performance”, is believed to mitigate agency problems (Fama, 1980; Hall & Liebman, 1998; Sanders & Hambrick, 2007). The theory assumes that managers so compensated will generally seek to positively impact firm performance and, ultimately, the long-term value of the firm (Devers et al., 2007). There may be specific situations, however, where the desire to benefit personally (managerial opportunism) leads to significant goal and risk preference misalignment between managers and shareholders. We believe that, in the specific context of decisions to distribute excess cash (retained earnings), managers with significant stock option holdings will show a distinct preference for purely financial investment decisions that benefit their own short-term compensation prospects over alternative investment options.
In this paper, we describe the nature of the risks inherent in the different elements of the pay mix that make up total managerial compensation, paying specific attention to stock options. We then analyze the investment options available to managers in light of the likely impact on their stock option compensation prospects, and predict which investment (distribution) decision is more likely. As such, this research contributes to the voluminous literature on managerial risk taking (Shapira, 1995; Williams, Zainuba & Jackson, 2008) by describing a specific set of decisions regarding investment disposition that have implications for understanding managerial behavior and firm performance. In doing so, we also present the argument that managers can easily disguise their self-interests, or managerial opportunism, by manipulating firm investment decisions to favor alternatives that provide the greatest likelihood of personal gain in the short term.