Management Accounting Section Midyear Meeting

A Multi-Pronged Approach to Corporate Risk-Taking: Investigating Political Connections and Executive Risk-Taking Incentives

• In Event: Incentives and Compensation I

Abstract

This study examines political connections, defined as corporate lobbying and campaign contributions, executive risk-taking incentives and overall corporate risk-taking. We argue that the benefits of political connections documented in prior literature (i.e., a lower risk of bankruptcy and regulatory enforcement) provide protection from downside risk. As such, we expect a positive association between shareholders providing CEOs with incentives to increase risk-taking activities and political activities. This is consistent with political connections shielding both the firm and the manager from the potential costs of assuming riskier projects. Our results are consistent with this argument. We further investigate whether CEO risk incentives and political connections translate into corporate risk-taking policies. We find that not only are CEO risk-taking incentives directly associated with subsequent corporate risk-taking but that an indirect effect flows through political connections. This suggests that the downside protection provided by political connections serves as a channel through which the CEO’s compensation incentives induce actual risk-taking. Lastly, to corroborate the argument that political connections provide managers with downside risk protection, we show that political connections are associated with a lower likelihood of CEO turnover incremental to firm performance and lower pay sensitivity to firm performance.

Authors

• Megan Grady, Texas A&M University

• Adrienne C Rhodes, Texas A&M University