CEO Risk Incentives and Firm Performance Following R&D Increases
66 Pages Posted: 30 Oct 2012 Last revised: 29 Jul 2014
Date Written: October 30, 2012
Abstract
In this study we analyze how CEO risk incentives affect the efficiency of research and development (R&D) investments. We examine a sample of 843 cases where firms increase their R&D investments by an economically significant amount over the period from 1995 to 2006. We find that firms with higher sensitivity of CEO compensation portfolio value to stock volatility (vega) are more likely to have large increases in R&D investments. More importantly, we find that high-vega firms experience lower abnormal stock returns and lower operating performance compared to their low-vega counterparts following the R&D increases. Our main results hold in a variety of robustness tests. The results are consistent with the conjecture that high vega may induce managers to overinvest in inefficient R&D projects and therefore hurt firm performance.
Keywords: Executive Compensation, Managerial Incentives, Risk Taking, R&D, Innovation, Investment Efficiency, Overinvestment, Firm Performance, Executive Stock Option, Vega
JEL Classification: G3, G30, J33, M12, O32
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