SUPER short recap:
- Pay varies with institutional factors and protections from country to country.
- As a general rule, if agency costs are high then firms pay with more equity.
- Large firms use more equity compensation than do small firms.
- There does not appear to be the great convergence that has been predicted.
- Agency costs of debt apparently matter less internationally than in US.
Slightly longer recap:
Bryan, Nash, and Patel (RNP) use a sample of 256 firms with ADRs from 36 countries for the years 1996-2004 to find that both macro/institutional (e.g. legal protections) and micro (growth opportunities, agency costs) affect pay.
The authors point out a possible bias in their sample creation:
"A trade-off for obtaining this accounting consistency is that our sample is made upBut believe that the tradeoff is necessary:
entirely of ADR-issuing firms. ADR issuers are commonly thought to be larger, more
"feel that the data availability, coverage, and consistency provided by our ADRSome highlights from the paper:
sample outweigh any potential selection bias."
"firms use more equity-based compensation in countries that provide strong protection of shareholder rights or have English common-law legal origins. Similarly, firms in countries with strong enforcement of the rule of law use more equity-based compensation.Contrary to prior hypotheses, the authors do not find that pay practices in different countries are quickly converging:
In addition to these institutional determinants, we find some evidence that the relative use of equity-based compensation is also affected by the firmÂs agency costs of debt and equity. The data indicate that non-U.S. firms with higher growth opportunities (and the resultant larger agency costs of equity) use relatively more equity-based compensation. We also find that larger firms and firms with lower free cash flow use more equity-based compensation."
"We find that despite the increasing globalization of financial markets, the compensation structures of U.S. and non-U.S. firms generally remain very different during the 1996-2004 period"While they generally do find the expected institutional (my 'macro') and agency cost (my 'micro') relations, the authors found limited evidence that the agency costs of debt are a driver in the way executives are paid internationally. These costs (for instance underinvestment and asset substitution) appear not to have as greatly of impact pay internationally as they do in the US. Why? RNP hypothesize it is because of greater creditor protections in many nations. Again in their words:
"Relating back to our institutional argument, it may be that the more creditor-centric orientation of most non-U.S. financial markets inoculates non-U.S. firms against threats posed by the agency problems of debt. That is, outside of the U.S., the mitigation of stockholder/bondholder conflicts may be a lesser concern when firms design managerial compensation contracts."
Good stuff...Really interesting! Oh sure a bigger sample etc would be nice, but this is a good first look at what is happening internationally. Will definitely find its way into the classroom!
BTW this is the first of many papers that we will be looking at from the upcoming FMA meetings.