High CEO Pay Ratios: Governance Failure or Superior Performance?

• In Event: Factors Influencing Executive Compensation

Abstract

Over the years, the ratio of CEO to average worker compensation (CEO pay ratio) in the U.S. has risen rapidly. There is an intense debate as to whether high CEO pay ratios reflect managerial rent extraction and corporate governance failures or firms’ ability to secure superior CEO talent, which is in short supply. This paper sheds light on this debate by examining the relation between CEO pay ratio and firm value/performance. We find that industry-adjusted CEO pay ratio is positively associated with both firm value and performance. Moreover, high pay ratio firms are more likely to engage in shareholder value enhancing acquisitions and exhibit stronger CEO turnover-performance sensitivity. Collectively, our results suggest that on average high CEO pay ratios indicate firms’ success in securing scarce CEO talent and do not indicate a failure in corporate governance.

Authors

• Qiang Cheng, Singapore Management University

• Tharindra S Ranasinghe, Singapore Management University

• Sha Zhao, Oakland University