Executive bonus compensation and financial leverage: do growth and executive ownership matter?
DOI | https://doi.org/10.1108/IJAIM-09-2020-0141 |
Published date | 19 May 2021 |
Date | 19 May 2021 |
Pages | 392-409 |
Subject Matter | Accounting & finance,Accounting/accountancy,Accounting methods/systems |
Author | Emmanuel Adu-Ameyaw,Albert Danso,Samuel Acheampong,Cynthia Akwei |
Executive bonus compensation
and financial leverage: do growth
and executive ownership matter?
Emmanuel Adu-Ameyaw
Bristol Business School, University of the West of England, Bristol, UK
Albert Danso
Leicester Castle Business School, De Montfort University, Leicester, UK
Samuel Acheampong
Departmentof Economics, University of Kentucky, Lexington, Kentucky, USA,and
Cynthia Akwei
Liverpool Business School, Liverpool John Moores University, Liverpool, UK
Abstract
Purpose –This study aims to examine the impact of executive bonus compensationon a firm’sfinancial
leverage policyand the extent to which this compensation–leverage relation is moderatedby firm growth and
executiveownership.
Design/methodology/approach –Using data from 213 non-financial and non-utility UK FTSE 350
firms for the period 2007–2015,generating a total of 1,784 firm-year observations,panel econometric methods
are used to test the model.
Findings –Drawing insights from agency theoreticview, this paper uncovers that managerial cash bonus
compensation is negatively and significantly related to financial leverage. However, stock bonus
compensationhas a positive and significant impact on leverage. This study also observes that compensation–
leverage is moderatedby both firm growth and executive ownership. The results remain robust to alternative
econometricmodels.
Originality/value –While this paper builds on the risk-motivated argument of executive bonus
compensation literature, it is the first –to the best of the knowledge –to explore the bonus compensation-
corporate financial leverage and, particularly, examine the extent to which firm growth and corporate
executiveownership matter in this relationship.
Keywords UK, Leverage, Executive bonus compensation
Paper type Research paper
1. Introduction
Executive compensation has garnered a great deal of attention from both academics and
non-academics. This narrative stems in part from flaws in various corporate
compensation practices which were revealed following the 2007–2008 global financial
crisis. It is, therefore, not surprising that shareholder votes on executive compensation
have been introduced in several countries within Europe (Ferri and Maber, 2013).
Broadly, prior scholarly work suggests that executive bonus compensation can be used
as a tool in aligning the interests of corporate managers with those of shareholders
JEL classification –G30, G32, G34
IJAIM
29,3
392
Received7 September 2020
Revised1 January 2021
Accepted4 February 2021
InternationalJournal of
Accounting& Information
Management
Vol.29 No. 3, 2021
pp. 392-409
© Emerald Publishing Limited
1834-7649
DOI 10.1108/IJAIM-09-2020-0141
The current issue and full text archive of this journal is available on Emerald Insight at:
https://www.emerald.com/insight/1834-7649.htm
(Balafas and Florackis, 2014;Kaplan and Rauh, 2010;Ortiz-Molina, 2007). Indeed,
effective bonus compensation policies such as incentive-based pay could persuade firm
executives to use costly effort to enhance the future growth opportunities of their firms,
thereby eliminating the agency conflicts between managers and shareholders and this
eventually creates shareholder value. Accordingly, the agency problem between
corporate managers and shareholders is minimised through optimal compensation
incentives (Balafas and Florackis, 2014;Grout and Zalewska, 2010;Ortiz-Molina, 2007;
Jensen and Meckling, 1976). Notwithstanding the growing theoretical and empirical
interest in executive bonus compensation, our understanding of the strategic implication
of executive bonus compensation is far from complete. Results from prior scholarly
advances have been mixed and unclear. Thus, in this study, we examine the influence of
both cash bonus compensation and stock bonus compensation on a firm’sfinancial
leverage policy by using panel data of 213 non-financial and non-utility UK FTSE 350
firms for the period 2007–2015. Examining these executive bonus compensations on firm
capital structure decision is important because it provides important insight into how top
management incentives affect firms’key strategic decision –capital structure decision.
Further, we seek to understand the extent to which the executive bonus compensation–
leverage relation is conditional on firm growth and executive ownership. In the UK, a
series of corporate governance reforms have been initiated to curb lavish executive bonus
compensations (Cho et al., 2019;Conyon et al., 2001). In spite of these reforms, the
excessive executive bonus is regarded as one of the main factors that led to the collapse of
many UK institutions during the 2007–2008 financial crisis (von Ehrlich and Radulescu,
2017). Thus, the UK presents a unique context for testing how executive bonus
compensation drives a firm’sfinancial leverage policy
By way of preview, the evidence obtainedin this study shows that executive cash bonus
compensation negativelyimpacts firm leverage. This suggests that incentives for executives
to adopt excessive financial leverage are lessened through the adoption of a cash bonus. In
effect, executives with cash bonus incentives are motivated to generate enough cash flow
which enables the firm to sponsor corporate activities with internally generated funds.
Thus, this reduces the likelihood of bankruptcy conflict as a result of less usage of debt
within the capital structure of the firm. However, our analysis reveals that executives’stock
bonus compensation has a positive and significant influence on a firm’sfinancial leverage.
This suggests that stock–based bonusinduces executives to allow greater debt levels in the
capital structure of their firms. Also, we find that growth opportunitynegatively moderates
both cash bonus compensation–leverage and stock bonus compensation–leverage
relationships. Further,we observe that executive ownership negatively moderates the stock-
based bonus–leverage relationship. This suggests that stock-motivated executives with
large ownership stakes preferto keep a lower leverage ratio in the firm’s capital structure to
minimise their personal and economic risks resulting from the firm’s possible bankruptcy
risk (Grossman and Hart, 1982). Additionally, because debtholders and other lenders are
likely to monitor and restrainmanagerial activities, stock-incentivised executiveswith more
ownership stakes may have an opportune incentive to lower debt levels to prevent external
control (Brailsford and Pua, 2002). Indeed, we conduct several tests to ascertain the
robustness of our results. Firstly, we measure both executive cash and stock bonus
compensations by using alternativeproxies. Secondly, in addition to OLS estimation, we use
the fixed effects model to deal with time-invariant covariates. Finally, we address the issue
of endogeneity and reverse causalityby using both the predicted model approach and three-
stage least squares (3SLS) estimations. Our results remain robust to all these tests and
alternative estimationsused to analyse the data.
Bonus
compensation
and financial
leverage
393
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