Do Contracts Make Them Care The Impact of CEO Compensation Design On Corporate Social Performance

J Bus Ethics
DOI 10.1007/s10551-017-3601-8
ORIGINAL PAPER
Do Contracts Make Them Care? The Impact of CEO

Compensation Design on Corporate Social Performance
Jean McGuire1 • Jana Oehmichen2 • Michael Wolff2 • Roman Hilgers2
Received: 3 December 2016 / Accepted: 26 May 2017

Springer Science+Business Media B.V. 2017
Abstract Using the behavioral agency model, we analyze Keywords Corporate social performance CEO
how two compensation design characteristics, pay-perfor- compensation Pay duration Pay-performance
mance sensitivity and duration of CEO compensation sensitivity Behavioral agency
(taking into account multiple vesting periods), affect cor-
porate social performance. We find that the performance
sensitivity of CEO pay is negatively associated with poor Introduction
social performance but also negatively affects strong social
performance. These results suggest that pay-performance Compensation can serve to direct managers’ attention to
sensitivity increases the relevance of potential negative specific topics (Eisenhardt 1989; Jensen and Murphy 1990;
consequences of poor social performance. However, the Nyberg et al. 2010). Prior research has examined the
‘insurance’ benefits of strong social performance may also relationship between compensation and firm decisions such
become less relevant. With respect to the duration of CEO as investments in research and development (Cheng 2004),
compensation, we find that it reduces poor social perfor- mergers and acquisitions (Bliss and Rosen 2001; Datta
mance. This finding confirms arguments that a long-term et al. 2001; Sanders 2001; Souder and Shaver 2010), and
compensation time horizon increases the perceived threat corporate risk taking (Armstrong and Vashishtha 2012;
that the negative effects of poor social performance will Carpenter 2000; Devers et al. 2008). However, fewer
become visible. With our findings, we integrate behavioral studies have examined the relationship between executive
agency theory with the traditional stakeholder views. compensation and corporate social performance (CSP) (for
exceptions see Deckop et al. 2006; Jian and Lee 2015;
Mahoney and Thorne 2005; McGuire et al. 2003). This
lack of research may reflect Orlitzky et al. (2011)’s con-
cerns regarding the lack of attention given the links
between individual or microlevel phenomena (such as
& Jean McGuire executive compensation) and CSP. Although many firms
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claim to consider ‘sustainability’ in awarding executive
Jana Oehmichen compensation, only a small percentage identifies specific
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sustainability targets (Cable 2014). However, using finan-
Michael Wolff cial performance-based incentive compensation is nearly
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universal. Therefore, several prior studies have examined
Roman Hilgers the relationship between the existence and the level of CEO
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incentive compensation and social performance. We add to
1
Rucks Department of Management, Louisiana State these studies and propose that two dimensions of incentive
University, Baton Rouge, LA, USA compensation design, pay-performance sensitivity (the
2
Chair of Management and Control, Georg-August University extent to which CEO compensation varies with firm
¯ ttingen, Germany
Göttingen, Go financial performance), and the duration of CEO
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J. McGuire et al.
compensation (vesting periods that are underlying the significant. We therefore argue that the avoidance of
components of incentive compensation) have implications potential losses particularly shapes decisions against poor
for social performance. CSP. In contrast, the benefits of strong CSP have been
Prior research on the relationship between CEO com- viewed as a form of ‘‘insurance’’ or real option, which may
pensation and social performance has focused on distinc- prove valuable at a future time to preserve gains and
tions between short-term and long-term incentives taken cushioning losses (Husted 2005; Koh et al. 2014; Shiu and
from firm regulatory filings, which usually categorize Yang 2017), suggesting a gain preservation framework.
equity-based compensation as long-term (Deckop et al. Thus, from the perspective of BAM, we suggest that strong
2006; Mahoney and Thorne 2005; McGuire et al. 2003). and weak social performance are framed differently.
However, this approach raises three issues. First, this Hence, we expect the effectiveness of pay-performance
approach actually captures two very distinct incentive sensitivity and duration of CEO compensation to be dif-
mechanisms: greater proportions of equity-based compen- ferent for strong CSP and for weak CSP.
sation imply both greater pay-performance sensitivity and We argue that pay-performance sensitivity of CEO
the duration of the compensation package. Second, compensation reduces both. CSP weaknesses and CSP
specifically regarding pay-performance sensitivity, there is strengths. High pay-performance sensitivity evokes a loss
significant variation in the pay-performance sensitivity of avoidance framing which discourages actions with signif-
executive equity ownership and options (Brick et al. 2012) icant downside risks such as weak CSP. In contrast, we
by firm and across time periods as executives exercise propose that CEOs frame strong CSP in terms of gain
options and firms adjust compensation awards (Core et al. preservation. In this context, high PPS would direct CEO
2003; Jensen and Murphy 1990), which may not be cap- attention to actions more likely to result improved perfor-
tured by an aggregate measure of equity-based compen- mance than would strong CSP. Hence, pay-performance
sation. Third, distinctions between long-term incentives sensitivity reduces both, opportunistic behavior (specifi-
and short-term incentives do not tap the actual time horizon cally CSP weaknesses) and pursuit of potential gains from
of the CEO’s compensation portfolio, which typically strong CSP. With respect to the duration of compensation
includes multiple option and equity awards with differing packages we propose that it improves CSP overall by
vesting periods and exercise restrictions (Gopalan et al. reducing CSP weaknesses and ameliorating CSP strengths.
2014). Studies suggest that these differing time frames are Theoretically, the link between compensation duration and
relevant to the implications of equity-based incentives social performance is rooted in the extent to which a
(Matta and Beamish 2008; McGuire et al. 2003; Ofek and shorter compensation duration increases incentives toward
Yermack 2000). We therefore distinguish pay-performance opportunism as manifested in socially questionable prac-
sensitivity and compensation duration. This distinction has tices which may bring short-term performance benefits. A
important theoretical implications. short compensation duration rewards the CEO for actions
This study is grounded in the behavioral agency model likely to increase short-term performance, including ‘cut-
(BAM). This model builds upon both, agency theory and ting corners’ in ways that may increase CSP weaknesses.
prospect theory. Similar to prospect theory, BAM argues Further, a shorter duration may reduce the likelihood that
that attitudes toward risk are a function of decision fram- poor social performance will be ‘discovered’ (Deckop et al.
ing. Specifically, a decision framed in terms of loss 2006), reducing perceived downside risk. For example,
avoidance (for example when a CEO is faced with poor Volkswagen had installed software which defeated emis-
financial performance, and hence loss to his/her incentive sion safeguards for at least 5 years before it was discovered
compensation) is associated to greater willingness to take in 2015, during which time the firm established itself as the
risk in order to avoid such loss. In contrast, a decision leader in diesel vehicles in North America (Russel et al.
framed in terms of gain preservation (protecting existing 2015). With respect to strong social performance, we argue
gains) is associated with risk aversion (Holmes et al. 2011; that the benefits of strong social performance are more
Wiseman and Gomez-Mejia 1998). Building upon agency likely to be manifested over a longer time period. Hence,
theory, BAM argues that incentive compensation influ- greater compensation duration binds the CEO to the firm in
ences whether decisions are framed in terms of loss aver- terms of both gains and losses associated to CSP strengths
sion or gain preservation. We propose that BAM is and weaknesses. We will more fully explore how the pay-
particularly appropriate to understanding the link between performance sensitivity and duration of executive com-
executive compensation and CSP in that strong and weak pensation influence the framing of strong and weak social
CSP are likely to be framed differently. performance in our theoretical development.
Weak CSP can be viewed as a risky strategy. Although Our study extends existing research by investigating the
it may bring short-term benefits (e.g., in terms of cost relevance of the BAM to social performance and its
reductions), the possible negative consequences can be implications for the relationship between executive
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Do Contracts Make Them Care? The Impact of CEO Compensation Design on Corporate Social…
compensation and CSP. We feel that BAM provides a (even if unexercised) as part of their compensation wealth.
superior framework than agency theory for analyzing the However, since BAM proposes that executives are loss
executive compensation–CSP relationship in that it better averse (in contrast to risk averse) (Wiseman and Gomez-
incorporates differential weighting of gains and losses Mejia 1998), BAM argues that agents prefer actions
(Wiseman and Gomez-Mejia 1998). This is particularly designed to protect current wealth, rather than risk that
relevant in that we argue that the benefits and risks of wealth in striving for adding additional wealth. Wiseman
strong and weak CSP are qualitatively different. Thus the and Gomez-Mejia (1998) argued that the BAM can be
implications of framing may be particularly critical. By applied to a number of strategic decisions, such as diver-
distinguishing the effects of pay-performance sensitivity sification and R&D expenditures. We argue that the BAM
and compensation duration, we provide a more nuanced also has important consequences for CSP decisions.
understanding of how and why CEO compensation influ-
ences social performance. BAM and CSP
In the following sections, we first discuss the theoretical
foundations of BAM that serve as our basis for our theo- Wood (1991a, p. 693) defines social performance as ‘‘a
retical predictions. Next, we develop our hypotheses. We business organization’s configuration of principles of social
then describe our sample, data sources, and empirical responsibility, processes of social responsiveness, and
approach. Finally, we present the results of our analysis policies, programs and observable outcomes as they relate
and discuss the limitations of our study as well as areas of to the firm’s societal relationships.’’ There is growing
future research. recognition that business and society are interwoven rather
than distinct entities (Orlitzky et al. 2011; Wood 1991a,
p. 695). In focusing on the link between incentive com-
Theoretical Background pensation and CSP, we argue that compensation incen-
tivizes executives to make decisions or take actions that
The Behavioral Agency Model have strategic, financial, and social implications. In
essence, business decisions, policies, and practices have
The behavioral agency model (BAM) builds on insights implications for multiple outcomes, including social per-
from prospect theory (Kahneman and Tversky 1979) and formance. Thus, social performance can be viewed as the
agency theory. According to agency theory the purpose of outcome of firm policies, strategies, or decisions (Wood
CEO compensation is to incentivize agents (Rutherford 1991b) that can be subject to influence by compensation.
et al. 2007), and align their interests with those of share- Consistent with previous research, we distinguish
holders (Nyberg et al. 2010) to shape CEOs’ behavior between two CSP dimensions: weaknesses and strengths.
(Carpenter 2000). Agency theory emphasizes the impor- The CSP weakness dimension comprises poor or undesir-
tance of managerial risk bearing to align principal and able social behavior. In contrast, the CSP strength dimen-
agent interests (Beatty and Zajac 1994; Devers et al. 2008; sion comprises the commendable social behavior of
Gray and Cannella 1997). The BAM extends these companies such as establishing special charitable programs
assumptions about risk preferences and builds upon pro- or exemplary employee involvement. Congruent with
spect theory by incorporating the moderating role of Mattingly and Berman (2006) and McGuire et al. (2003),
framing (Wiseman and Gomez-Mejia 1998). Decisions that we argue that CSP strengths and weaknesses may be sub-
are framed in terms of the need to improve performance to ject to different dynamics. In viewing adoptions of strong
avoid loss are associated with a greater willingness to take or weak CSP as a ‘‘mixed gamble,’’ it is important to also
risk to avoid such loss. In contrast, decisions framed in consider the framing of strong and weak social perfor-
terms of gain preservation (protecting existing gains) are mance in terms of avoidance of loss or preservation of
associated with risk aversion (Holmes et al. 2011; Wise- gains. We argue that managers emphasize the potential
man and Gomez-Mejia 1998). risks and possible losses due to poor CSP. Lange and
Wiseman and Gomez-Mejia (1998) and Martin et al. Washburn (2012) argue that the attributions of poor CSP
(2013) argue that most decisions made by a CEO can be are more salient and bring greater external reaction than
viewed as ‘mixed gambles’ associated with both potential those of strong CSP. Consequently, poor CSP leads to
gains and potential loss. Thus, incentive compensation significant market reaction, a reduction of firm value and
exposes the CEO to both potential gains and losses. therefore a loss situation for CEOs that are incentivized
Building upon these arguments, the authors argue that with variables compensation. Conversely, the perhaps
executives are likely to frame their accumulated equity uncertain benefits of strong CSP have generally been
compensation as gains even though it is technically ‘at viewed as a form of insurance or real option whose
risk.’ In other words, CEOs tend to view their stock options uncertain benefits are most likely to be manifest in cases of
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J. McGuire et al.
performance shortfalls (Cassimon et al. 2016; Godfrey Pay-Performance Sensitivity and Corporate Social
et al. 2009; Husted 2005). The following sections develop Performance
hypotheses regarding how pay duration and pay-perfor-
mance sensitivity influence the framing of strong and weak The PPS–CSP relationship has received little attention and
CSP. is theoretically complex. High PPS implies that a CEO’s
compensation is sensitive to changes in the firm’s financial
performance, thus increasing the relevance of the financial
Hypothesis Development performance criteria in decision making. Agency theory
suggests that CEOs maximize firm performance and
In this study, we focus on two important characteristics of shareholder wealth if their own wealth strongly depends on
the CEO compensation contract design: pay-performance the firm’s stock price performance (Jensen and Meckling
sensitivity (PPS) and compensation duration. As noted 1976; Jensen and Murphy 1990). Empirically, however,
earlier, broad distinctions between equity and non-equity research on the relationship between managerial incentive
compensation do not differentiate these two compensation and firm risk suggests the complexity of this relationship
dimensions. We therefore distinguish PPS—the CEO (Brick et al. 2012; Coles et al. 2006; Guay 1999; Mishra
wealth effect of stock price changes—and compensation et al. 2000). From the perspective of the BAM, researchers
duration—the actual time horizon of the equity and options have shown that executives have different preferences with
in a CEO’s compensation package that focuses managerial respect to potential losses or gains (Devers et al. 2007;
attention on the longer- or shorter-term implications of Tversky and Kahneman 1991). The BAM holds that, in
their decisions. Owing to the growing share of equity-based general, individuals prioritize loss avoidance and protect-
compensation in the recent years (Murphy 1999; Perry and ing current wealth over maximizing potential future wealth
Zenner 2001), CEO wealth has become substantially more (Kahneman and Tversky 1979; Martin et al. 2013).
sensitive to stock price (Coles et al. 2006; Hall and Lieb- Therefore, the extent to which PPS evokes loss aversion or
man 1998). However, there is significant variation in the wealth preservation is a critical issue regarding CSP and
performance sensitivity of CEO pay (Jensen and Murphy compensation.
1990; Mishra et al. 2000) between firms and over time as Regarding weak social performance, we argue that high
executives exercise options and firm’s award additional PPS would lead executives to view their compensation as
compensation over time. Similarly, CEO’s portfolio of more ‘‘at risk’’ (Coles et al. 2006; Guay 1999). Although
equity and option compensation consists of equity and high PPS implies that compensation is more sensitive to
option grants of varying time frames depending upon the changes in the firm’s market price (both increases and
date of award, vesting restrictions, and the like. Prior decreases), BAM suggests that avoiding potential loss
research has suggested that CEO’s are well aware of the would be more salient than seeking upside gain (Martin
differing time frames of their incentive awards (Matta and et al. 2013; Wiseman and Gomez-Mejia 1998). This is
Beamish 2008; McGuire et al. 2003; Ofek and Yermack particularly relevant in that individuals tend to overesti-
2000). It is therefore important to examine the actual time mate the probability of rare events, particularly negative
duration of the CEO’s portfolio of equity-based events (Diemont et al. 2016; Holmes et al. 2011). As a
compensation. result, the potential negative consequences of poor social
High PPS would focus managerial attention on achiev- performance may weigh more heavily in decision making.
ing financial performance expectations and avoiding Such framing would encourage a more conservative ‘‘do no
actions that may jeopardize performance. Compensation harm’’ orientation. Further, and congruent with Lange and
duration, conceptualized as the weighted sum of vesting Washburn (2012), empirical evidence suggests that the
periods of compensation parts (Gopalan et al. 2014), is market reacts negatively to poor social performance
another important element of compensation plan design (Bromiley and Marcus 1989; Flammer 2013), further
relevant to understanding CSP. We argue that both ele- reinforcing the potential negative consequences of poor
ments of compensation have implications for CSP. We social performance. Indeed, managers may give significant
propose that high PPS evokes a loss avoidance framing that weight to the potential negative implications of weak CSP
would emphasize the potential costs of poor social perfor market value (Lange and Washburn 2012; van der Laan
formance and to discount the potential benefits of strong et al. 2008). With increasing PPS, the potential negative
social performance. We also propose that a longer com- consequences of such behavior would also increasingly
pensation time horizon increases the salience of the affect the CEO’s personal wealth. This argument is con-
downside risk of poor CSP and encourages CEOs to rec- gruent with findings of a negative PPS-firm performance
ognize the potential value of strong CSP. The following relationship when firm performance is more volatile
sections detail these issues. (Mishra et al. 2000). We therefore believe that CEOs will
123
avoid risky strategies that involve actions with potentially market reaction to a firm’s deletion from the index, but no
risky social consequences and may spend more resources to significant market reaction to a firm being added. Shiu and
prevent CSP weaknesses, both of which may have the Yang (2017) show that the insurance benefits of strong CSP
potential to negatively influence stock price. These argu- are not long-standing. In the case of the BP Deepwater
ments are also congruent with Holmes et al. (2011) who Horizon incident, although markets reacted favorably to
note the importance of considering the perceived value of positive information regarding the spill, these actions did
potential outcomes. Any reduced costs made possible by not offset the overwhelmingly negative market reaction to
weak CSP may pale when compared to the negative rep- the incident (Fodor and Stowe 2010). These declines would
utational, product market, and financial market implica- have had direct impact on the value of executive equity
tions of poor CSP. For example, the market reaction to the compensation and ownership, which would be reinforced
BP Deepwater Horizon oil spill brought significant in the context of high PPS. On the whole we believe that
immediate and extended declines in the BP stock price high PPS would provide limited incentives for CEO’s to
(Fodor and Stowe 2010; Sabet et al. 2012). Other examples focus on strong CSP: High PPS may provide limited
would be the negative reaction to triple-digit price hikes for incentives to produce strong social performance that pri-
the Mylan EpiPen and outcry regarding the unauthorized marily serves to extract future gains perceived as uncertain.
accounts opened by Wells Fargo Bank employees, both of In contrast, high PPS may encourage CEO’s to weigh
which resulted in multiple congressional hearings and factors that are more likely to improve firm market per-
significant declines in firm market value. John Stumpf, formance in their decision making to preserve their wealth.
CEO of Wells Fargo, faced a claw-back of 2 year’s salary In doing so, they may be less concerned about the social
before his resignation from the firm without severance implications of their investment decisions than their
compensation (Burton 2016; Glazer 2016; Hayashi 2016). potential financial implications. Thus, we feel that the
Therefore, CEOs may be unwilling to risk the negative overall effect of high PPS would be at best neutral
implications of weak social performance. regarding strong social performance. On the whole, how-
ever, we feel that it is more likely that PPS would make it
Hypothesis 1a The PPS of CEO compensation is nega-
less likely that CEO’s would devote efforts to actions that
tively related to CSP weaknesses, such that higher PPS is
build social strengths. Thus, we expect a negative associ-
associated with lower CSP weaknesses.
ation between PPS and actions improving CSP strengths.
Following McGuire et al. (2003), we view strong CSP as We, therefore, propose the following hypothesis:
a more proactive stance toward social performance. CSP
Hypothesis 1b The PPS of CEO compensation is nega-
strengths may provide benefits should the firm encounter
tively related to CSP strengths, such that higher PPS is
CSP difficulties or wish to benefit from stakeholder support
associated with lower CSP strengths.
during periods of financial downturn, in essence protecting
gains. Therefore, one argument might be that strong CSP
Compensation duration and corporate social
can be viewed as a means for building goodwill with
performance
stakeholders, which may become valuable over a longer-
term time horizon (Husted 2005). Thus, strong CSP might
Building on McGuire et al. (2003), who view avoiding CSP
be perceived as having instrumental or strategic benefits
weaknesses as a ‘‘do no harm’’ orientation, we propose that
(Margolis and Walsh 2003; Orlitzky et al. 2003) that may
a long CEO pay duration evokes loss avoidance framing,
be reinforced by high PPS. However, we feel that a
avoiding CSP weaknesses, which may have negative con-
stronger argument can be made for a negative relationship
sequences for the firm and CEO (Martin et al. 2013).
between PPS and CSP strengths. First, Lange and Wash-
Avoidance of the possible downside risk of weak CSP
burn (2012) and Shiu and Yang (2017) suggest important
would be particularly critical in that poor social perfor-
limitations to the insurance or options benefits of CSP
mance is particularly salient to observers (Lange and
strengths. From the perspective of BAM (as well as pro-
Washburn 2012). Thus, from the perspective of BAM, the
spect theory), the perceived or probable value of strong
downside risk of taking actions that may lead to poor social
CSP may be reduced (Holmes et al. 2011). Although
performance would be particularly relevant.
contradictory evidence exists (Flammer 2013), significant
A long compensation duration may also increase the
empirical evidence supports their arguments that market
risks that poor social performance would become observ-
evaluation of strong CSP would be less than that of weak
able. For example, in the cases of Volkswagen, BP, and
CSP (Doh et al. 2010; Mishra and Modi 2013). For
Wells Fargo cited earlier, problematic behaviors had
example, viewing addition to or deletion from Calvert’s
existed for several years before coming to the forefront of
social performance index as evidence of strong or weak
public attention. A long compensation time frame increases
social performance, Doh et al. (2010) found a negative
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J. McGuire et al.
the length of time an adverse event can impact executive with the resource-based view and stakeholder theory that
compensation (for example protracted litigation or regu- argue for the relevance of stakeholder relations as a
latory actions).1 Particularly if we assume that poor social resource that is nurtured and developed over the long term.
performance (in contrast to strong or ‘neutral’ social per- In contrast, compensation design with short durations
formance) is not the norm, executives may be particularly may provide incentives for CEOs to devote resources to
sensitive to the potential downside of poor social perfor- activities that better promote short-term performance tar-
mance (in essence, taking a gain preservation framing). gets. Arguments for the benefits of strong CSP rest on its
Therefore, CEO’s may avoid decisions that may result in long-term benefits. Viewing incentive compensation as a
poor CSP. mixed gamble, a short duration may encourage CEOs to
In contrast, a short compensation duration may focus discount any potential benefits to strong CSP and focus on
managerial attention on achieving ‘bottom line’ results. actions more likely to bring shorter-term returns. Strong
Even if CEO’s do not explicitly select less socially social performance may therefore suffer if CEO priorities
responsible actions, they may be less sensitive to the shift toward actions perceived as more likely to benefit the
negative social implications of their decisions (Deckop firm’s more immediate financial performance. From the
et al. 2006; McGuire et al. 2003). Further, our measure of perspective of the BAM, a short-term pay horizon would
compensation time frame taps the extent to which the mitigate both the gain preservation and loss avoidance
incentive component of compensation is accessible within implication of strong social performance. We therefore
a short time frame. Given that many CSP weaknesses are expect CEOs to minimize CSP investments.
unlikely to be immediately discovered (Deckop et al. 2006)
Hypothesis 2b The duration of CEO compensation is
the executive would have the opportunity to reduce risk
positively related to CSP strengths, such that longer dura-
exposure (for example through exercise of stock options or
tion is associated with greater CSP strengths.
equity sales) before poor social performance comes to
light. Indeed, McGuire and Matta (2003) found that CEO’s
tended to exercise options and sell equity prior to perfor-
Data and Methods
mance declines. Thus, a shorter compensation duration
would serve to limit downside risk. Rather executives may
Sample and Data Sources
emphasize any potential benefit of poor social performance
to achieve their performance objectives. We therefore,
Our study sample comprises all 84 non-financial firms that
argue that longer pay time horizons increase the incentive
were part of Standard & Poor’s 100 (S&P 100) in 2006.2
to avoid CSP weaknesses, and that a shorter-term pay time
We collected firm data from 2006 to 2011. We chose 2006
horizon is positively associated with weak CSP.
as the base year for our analyses because of the improved
Hypothesis 2a The duration of CEO compensation is compensation transparency following the 2006 Securities
negatively related to CSP weaknesses, such that longer and Exchange Commission (SEC) overhaul of proxy dis-
duration is associated with lower CSP weaknesses. closure rules (Murphy 2013). Missing data for 37 firm
years3 resulted in a final sample of 467 observations.
We expect a positive association between CEO pay
Since the information needed to calculate our compen-
duration and ‘‘exemplary’’ social performance in terms of
sation variables is not provided in common compensation
CSP strengths. Although reducing CSP weaknesses can be
databases such as Execucomp, we hand-collected all
viewed as a form of ‘‘risk avoidance’’ over the longer term,
compensation related data from firm proxy statements. We
longer compensation duration will encourage CEOs to also
then used the published information to compile a unique
take actions that increase CSP strengths as a form of
dataset containing in-depth information on CEO compen-
insurance or real option in the case of subsequent need
sation design (e.g., vesting periods, time-to-maturity for
(Husted 2005). As noted earlier, although the eventual
previously granted option packages, and present values of
benefits of strong social performance may be uncertain,
their value would only be tapped over a longer time frame. 2
We excluded financial firms as they are only partially comparable
From the perspective of the BAM, long compensation
with industrial enterprises, for example, in terms of accounting
duration may encourage CEOs to maintain and build their measures or corporate governance (Adams and Mehran 2003).
reputation for strong social performance as a form of ‘in- Although using the S&P 100 limited our sample size, it increased
surance.’ Thus, any costs of CSP would more likely be the liklihood that complete data would be available from all of our
sources, most importantly KLD. Furthermore, calculating compensa-
viewed in terms of wealth preservation. It is also congruent
tion duration and PPS was extremely time consuming.
3
For some companies, data could not be collected for all six years of
1
Firms often cite a desire to bring closure to an incident as a reason the time period as they became insolvent or were taken over by
for settling litigation or regulatory action. another company.
123
grants). We used the Kinder, Lydenberg, and Domini firms and subtracted these from the respective individual
(KLD) dataset to measure CSP. The KLD dataset has been firm scores. By using the relative CSP scores, we could
extensively used in premier management journals over the improve comparability across years and account for pos-
past several years (Coombs and Gilley 2005; Hillman et al. sible industry effects (Erhemjamts et al. 2013; Johnson and
2001; Hillman and Keim 2001; Surroca et al. 2010; Greening 1999). To further account for potential time
Waddock and Graves 1997) and is regarded as ‘‘the largest effects in the KLD measure after 2009, we assess the
multidimensional corporate social performance database robustness of our findings using a recalculated CSP index
available to the public’’ (Deckop et al. 2006, p. 334). that only includes indicators available over the entire
Independent KLD researchers use various sources, such as sample period (both before and after 2009). This change in
financial statements, government reports, as well as press the dependent variable resulted in qualitatively similar
and academic journal articles, to assess a company’s social results. While this approach would improve comparability
performance along seven major dimensions—environment, across years, we prefer the previously discussed approach
community, human rights, employee relations, diversity, with CSP indices that are based on significantly more
product, and governance—in a given year (Deng et al. assessments of indicators. Finally, to ensure that time
2013; Kim et al. 2012). These two primary datasets are effects do not bias our results, all models include year
complemented with financial information from Compustat dummies.
(accessed through DataStream) and governance data from Following Mattingly and Berman (2006) and McGuire
BoardEx.4 et al. (2003), we calculated separate measures for CSP
strengths and weaknesses. Given the reduced number of
Dependent Variables weakness or strength indicators in certain dimensions after
the change in the 2010 KLD methodology, the calculation
KLD assesses firm social performance along the afore- of the KLD indices as the weighted averages of the
mentioned seven dimensions. We constructed indices of remaining six KLD dimension sub-scores depends solely
strong and weak CSP for all firm-year combinations. In line on the score of very limited indicators when only consid-
with prior studies, we excluded the governance dimension ering weaknesses or strengths. Thus, we constructed the
from our analysis (Hong and Kostovetsky 2012; Kim et al. CSP weaknesses and CSP strengths indexes as the sum of
2012) since ‘‘corporate governance is perceived as a dis- all KLD scores for the indicators identified as weaknesses
tinct construct from CSR’’ (Kim et al. 2012, p. 11), which or strengths, divided by the total number of indicators in a
we controlled for using other variables. given year. The indices were adjusted by the respective
The use of the KLD measures requires several industry-median CSP scores. In the robustness tests, we
methodological choices. One of these involves the con- found that the results were qualitatively similar when cal-
sistency of KLD CSP dimensions over time and the culating the CSP scores as the weighted average of the six
weighting of specific items. Since the number of indicators KLD dimension sub-scores, giving equal weighting to each
of each KLD dimension varies over time, it is important to dimension.
ensure the comparability of the CSP scores across years.
This is particularly important given that the 2010 KLD Independent Variables
rating methodology changes because of the acquisition of
KLD by RiskMetrics, subsequently acquired by Morgan Pay Duration
Guaranty Trust Company (MSCI) (Demos 2010). Several
indicators were consolidated, newly introduced, or elimi- We calculated the executive pay duration according to
nated. Deng et al. (2013) argued that normalizing the CSP Gopalan et al.’s (2014) approach. They developed a mea-
scores by the respective number of indicators helps over- sure to allow for ‘‘quantify(ing) the mix of short-term and
come the issue of the considerably varying number of long-term executive pay’’ by computing ‘‘the weighted
indicators each year. Nevertheless, the use of Deng’s average of the vesting periods of the different components
methodology resulted in a marked increase in the average of executive pay’’ (Gopalan et al. 2014, p. 2). This pay
CSP score across the S&P 500 firms after 2010. Therefore, duration measure explicitly takes into account vesting
we calculated the annual industry-median CSP indices for schedules instead of using the stock-based bonuses in total
the Fama–French (1997) 12 industries5 across the S&P 500 compensation (long-term pay focus) (Deckop et al. 2006).
However, while Gopalan et al. (2014) incorporated the
4 vesting schedules of stock-based compensation, we argue
We hand-collected data from annual reports to fill in missing
entries, wherever possible. that it is increasingly important to also consider the time
5
http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/Data_Library/ horizon of cash bonuses with long-term vesting schedules.
det_12_ind_port.html. According to Li and Wang (2013), a large share of cash
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J. McGuire et al.
bonuses is long-term oriented, and ignoring them could calculating the sensitivities of CEO option wealth is slightly
lead to a biased understanding of executive incentives. more difficult. We used a modified Black–Scholes model to
Thus, we expanded Gopalan et al.’s (2014) executive pay calculate the PPS of current option grants and options
time horizon measure by including the vesting schedules of granted prior to the current fiscal years (Brick et al. 2012;
cash bonuses: Core and Guay 2002).8 While Brick et al. (2012) and Core
Pb Ps Po
Salary 0 þ ni¼1 Bonusi ti þ nj¼1 Restrictedstockj tj þ nk¼1 Optionk tk
Duration ¼ P nb P ns P no ;
Salary þ i¼1 Bonusi þ j¼1 Restrictedstockj þ k¼1 Optionk
where i denotes a cash bonus grant, j represents a restricted and Guay (2002) split the previously granted options into
stock grant, and k is an option grant. While most variables groups of unexercisable and exercisable options and esti-
are defined in line with Gopalan et al. (2014),6 we made a mated the exercise price and time to maturities for both
few modifications in reference to the variables ti, tj, and tk, groups (e.g., assuming that unexercisable options have a
which represent the time horizon in years of the corre- three-year longer time to maturity than exercisable options),
sponding compensation components. Gopalan et al. (2014) we hand-collected the exercise price and the remaining time
used the total vesting period (in case of cliff vesting to maturity for each previously granted option package for
schedules) or assumed equally distributed vesting from the all firm-year combinations. Then, we calculated the exercise
grant date (in case of graded vesting schedules) to calculate price and time to maturity as a weighted average of all option
the time horizon of each compensation component. Instead packages. This enabled us to derive a more precise measure
of using these simplifying assumptions, we calculated the of PPS using the real exercise price, option maturity, and
average vesting periods for ti, tj, and tk, which reflect the corresponding yield to the maturity of treasury securities for
exact vesting schedules as outlined in the proxy statements, both newly and previously granted options. In line with
and included them in our hand-collected dataset. The dif- Brick et al. (2012), we used the log of PPS to account for
ference becomes apparent when considering, for example, high skewness and kurtosis.
that some companies use grants that only start vesting from
the second year after the grant date, or that the vesting Control Variables
share over years is not always equally distributed. Fur-
thermore, our hand-collected dataset allows us to consider We included numerous variables in the model to control for
the holding requirements that some companies impose after firm, board, CEO, owner, and industry characteristics that
vesting stock-based compensation components. We believe are detailed below. Each of the control variables has a
that these modifications lead to a more precise measure of potential link to CSP and has been commonly specified in
the executive pay duration. previous studies.
Company size and prior financial performance have often
Pay-Performance Sensitivity been linked to CSP (Deckop et al. 2006; Hillman and Keim
2001; Johnson and Greening 1999; Waddock and Graves
We calculated PPS as the sum of the expected changes in the 1997). We controlled for size measured by the log of total
CEO’s stock and option wealth corresponding to a 1% assets and used the mean return on equity (ROE) over the
change in the firm’s stock price.7 While the CEO’s stock past 3 years as a control variable for prior financial perfor-
wealth changes dollar-for-dollar with the stock price, mance. Socially responsible activities may also be affected
by a company’s ability to meet financial obligations and
6
In short, time horizon is calculated relative to the year end, so business risks (McGuire et al. 2003; Waddock and Graves
Salary has a vesting period of zero. Salary, Bonusi, Restricted stockj,
1997). We used leverage, defined as the total debt divided by
and Optionk refer to the respective dollar values of the corresponding
grants (in our analysis, Salary includes base salary and fringe total assets, to measure financial strength and measured risk
payments, and we use the Option value as stated in the companies’ as the standard deviation of ROE, divided by the mean ROE
proxy statements). The variables nb, ns, and no refer to the total
number of grants. Please refer to Gopalan et al. (2014) for more
details. 8
As employees might choose to exercise options before reaching
7
According to Hall and Liebman (1998) and Murphy (1999), PPS is their maturity date, we tested our results by reducing the time-to-
primarily driven by changes in stock price affecting stock and option maturity by a constant percentage of 30%. All results were robust to
values, and not by other forms of compensation. this modification.
123
over the last three years. McWilliams and Siegel (2001) regression models, which led to qualitatively similar
argued that the CSP activities of companies depend on the results.
growth stage of an industry’s lifecycle. We included in our In the regression analyses, we used Huber–White robust
model a company’s long-term sales growth over the past standard errors to account for heteroscedasticity. Some
3 years as a proxy for the growth stage and a control vari- variables, such as PPS, firm size, growth, and performance,
able. Authors have also stressed the positive correlation were winsorized at the 5% level in response to extreme
between R&D spending and CSP (McWilliams and Siegel outliers in the dataset. Finally, we lagged the CEO and
2001). Thus, we included relative R&D spending measured governance control variables.
as total R&D expenses divided by total assets as the control
variable.
Besides these accounting-based control variables, we Results
included typical CEO and governance control variables
that might influence CSP. We controlled for CEO charac- Table 1 displays the means, standard deviations, and
teristics by including CEO tenure, measured as time in the pairwise correlations for all variables included in our study.
company, and CEO age (Coombs and Gilley 2005; Shin On average, the companies have a CSP weaknesses index
2016). Johnson and Greening (1999) argued that outside of 0.21 and a CSP strengths index of 0.30. Moreover, a
director representation affects CSP. Further, (Hafsi and positive correlation (0.28) exists between the CSP weak-
Turgut 2013) note the influence of board size. We therefore nesses index and the CSP strengths index. This correlation
controlled for board size and board outsiders. Furthermore, supports the argument for the separation of social strengths
ownership characteristics might influence companies’ and weaknesses. It also confirms the reality that firms can
social activities. Therefore, we controlled for the accu- exhibit both social strengths and social weaknesses. For
mulated voting rights proportion for institutional owners example, both McDonald’s and Wal-Mart have been crit-
with voting rights above 1%. We also controlled for icized for certain practices—McDonalds in terms of the
blockholders, measured by dummy variables taking the health of their products and labor practices and Wal-Mart
value of 1 if the largest investor has more than 10% of the for their labor practices and possible impact on local
company’s voting rights, or 0 otherwise. businesses; however, they are also known to have strong
Since corporate social behavior may vary across industries commitments toward philanthropic activities (e.g., Ronald
(Hillman and Keim 2001; McGuire et al. 2003), we controlled McDonald houses and Wal-Mart’s contribution to local
for industry effects by specifying dummy variables on the charities). Indeed, a firm can exhibit both strengths and
basis of the Fama–French 12 industry classification. This weaknesses within the same dimension. For example, KLD
classification was developed to provide industry classifica- identifies IBM’s environmental communication efforts as a
tions appropriate to academic researchers (e.g., Bhojraj et al. strength but its treatment of hazardous waste as a weak-
2003) and has been commonly used in academic research ness. Although initially counterintuitive, this result con-
(e.g., Jo and Harjoto 2012). We also included a year-dummy firms the complexity of CSP in that firms can exhibit both
variable to control for year-specific effects. strengths and weaknesses. It also suggests that the use of
the combined measure of strengths and weaknesses may
Estimation Methods mask the important aspects of a firm’s social performance.
The correlation matrix and the results of the variance
As previously discussed, we measured CSP weaknesses inflation factor (VIF) analyses (all values are less than
and strengths by indices taking values between zero and 5.19), do not suggest a problem with multicollinearity
one depending on the degree of a company’s social per- (Hair et al. 2006).
formance. Since a significant fraction of the observations Table 2 presents the regression models for the
was zero, we tested our hypotheses using censored hypotheses testing regarding the CSP weaknesses index
regression models (Tobit) (Greene 2008). (models 1.1 and 1.2) and the CSP strengths index (models
Given the limited scope of the sample, comprising 2.1 and 2.2). Models 1.1 and 2.1 contain all accounting-
between 75 and 84 companies per year,9 typical panel based, CEO, and governance control variables. On the
regression methods had to be used with caution. However, basis of these control variables, models 1.2 and 2.2
as a robustness test, we used random effects Tobit panel investigate the effect of PPS and pay duration on the dif-
ferent CSP measures.
9
The sample comprises 2006–2011 data for all non-financial firms Hypothesis 1a predicted a negative relationship
that were part of the S&P 100 in 2006. Due to insolvency or
between CEO PPS and CSP weaknesses. In agreement
takeovers, the number of firms included in the sample decreased over
time from 84 in 2006 to 75 in 2011, leading to a total sample size of with this hypothesis, we find a significant, negative rela-
467 firm years. tionship between PPS and the CSP weaknesses index
123
123
Table 1 Descriptive statistics and correlationsa
Variable Mean s.d. 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
1. CSP (overall)b 0.54 0.11

b
2. CSP weaknesses 0.21 0.13 -0.42*
3. CSP strengthsb 0.30 0.19 0.69* 0.28*
4. Time horizon 1.37 0.82 0.02 0.14* 0.11*
5. PPSc 7.04 1.16 0.01 -0.02 0.01 -0.06
6. Sizec 17.42 0.95 0.09* 0.55* 0.37* 0.28* 0.18*
7. Prior financial 21.96 16.24 0.15* -0.11* 0.05 0.02 0.16* -0.17*
d
performance
8. Leverage 0.26 0.14 -0.05 -0.00 -0.08 -0.06 -0.32* -0.07 0.01
9. Riskd 0.12 0.72 0.02 -0.06 -0.04 0.03 0.06 0.01 0.20* -0.03
10. Sales growthd 0.22 0.18 -0.06 -0.10* -0.11* -0.01 0.12* 0.05 -0.10* -0.07 -0.04
11. R&D 0.03 0.04 0.30* -0.06 0.28* -0.07 0.11* -0.13* 0.12* -0.29* 0.05 -0.01
12. CEO tenure 17.18 11.96 0.08* 0.02 0.10* 0.04 0.11* -0.02 0.18* 0.11* 0.14* -0.14* -0.01
13. CEO age 56.98 5.24 0.00 0.08* 0.07* 0.12* 0.01 -0.04 -0.00 -0.00 -0.05 -0.03 -0.05 0.27*
14. Board size 10.63 1.93 0.10* 0.26* 0.32* 0.06 -0.07 0.33* -0.04 0.23* -0.03 -0.02 -0.27* 0.04* 0.19*
15. Board outsiders 0.88 0.10 -0.04 0.09* 0.02 0.02 0.03 -0.06 -0.01 -0.10* 0.05 0.00 -0.21* -0.04* 0.12* 0.14*
16. Institutional 0.33 0.13 -0.10* -0.22* -0.29* -0.24* -0.21* -0.46* -0.38* 0.13* -0.14* 0.07 -0.08 0.02 -0.05* -0.20* 0.08*
owners
17. Blockholders 0.23 0.42 -0.04* -0.08* -0.10* -0.10* 0.06 -0.26* 0.03 0.13* -0.13* 0.01 0.03 -0.05* -0.01 -0.05* -0.04* -0.05*
* p \ 0.05
a
This table reports the summary statistics and pairwise correlations for the variables used in the analyses. N = 467
b
Means and standard deviations are shown for uncentered CSP measures. Correlations refer to centered (industry-adjusted) measures as used in the regression analyses
c
Logarithm
d
Mean value over the past three years
J. McGuire et al.
Table 2 Results of regression

Variables CSP weaknesses CSP strengths
analysis for different CSP
measuresa Model 1.1 Model 1.2 Model 2.1 Model 2.2
Independent variables
Time horizon -0.01* 0.00
(-2.02) (0.43)
PPS -0.02*** -0.02***
(-4.80) (-3.87)
Accounting-based control variables
Size 0.07*** 0.07*** 0.07*** 0.08***
(9.41) (10.51) (7.77) (7.98)
Prior financial performance -0.00 0.00 0.00 0.00
(-0.24) (0.45) (0.14) (0.80)
Leverage 0.01 -0.02 0.04 0.00
(0.27) (-0.52) (0.75) (0.06)
Risk -0.01 -0.01 -0.02** -0.02**
(-1.48) (-1.60) (-2.76) (-2.77)
Sales growth -0.08*** -0.07*** -0.10** -0.08**
(-3.85) (-3.58) (-3.04) (-2.59)
R&D 0.06 0.06 1.23*** 1.24***
(0.39) (0.42) (4.20) (4.26)
CEO and governance control variables
CEO tenure -0.00* -0.00 0.00 0.00
(-2.11) (-1.78) (0.29) (0.53)
CEO age -0.00 -0.00 -0.00 -0.00
(-1.13) (-1.03) (-1.44) (-1.49)
Board size 0.01* 0.00 0.01* 0.01*
(2.32) (1.92) (2.54) (2.58)
Board outsiders 0.03 0.05 0.13* 0.15*
(0.79) (1.19) (2.09) (2.45)
Institutional owners -0.01 -0.03 0.06 0.05
(-0.29) (-0.62) (0.78) (0.66)
Blockholders 0.02* 0.03** -0.02 -0.01
(2.02) (2.78) (-1.31) (-0.73)
Method Tobit Tobit Tobit Tobit
a
This table reports the test results for the effect of key compensation contract design variables on different
CSP measures. Models 2.1 and 2.2 refer to the overall CSP, models 3.1 and 3.2 refer to CSP weaknesses
only, and models 4.1 and 4.2 refer to CSP strengths only. The t-statistics reported in parentheses are
calculated using standard errors adjusted for heteroskedasticity. Industry and year dummies are included in
the regressions, but not listed in this table. Variables with extreme outliers are winsorized at 5% in both
tails. N = 467
* p \ 0.05
** p \ 0.01
*** p \ 0.001
(b = - 0.02, p \ 0.001 in model 2.2). Hence, hypothesis Hypothesis 2a stated that CEO pay duration has a neg-
1a is strongly supported. Hypothesis 1b suggested that ative effect on CSP weaknesses. The results in model 1.2
CEO PPS has a negative effect on CSP strengths. Indeed, suggest a significant negative effect of duration on the CSP
we find that PPS appears to be significantly negatively weaknesses index (b = - 0.01, p \ 0.05). Thus, hypoth-
related to the CSP strengths index (b = - 0.02, esis 1a is supported.
p \ 0.001 in model 2.2). Thus, hypothesis 1b is strongly Hypothesis 2b suggested that CEO pay duration has a
supported. positive effect on CSP strengths. However, while the
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coefficient is positive, the results indicate that duration is CSP. As salary levels do not influence PPS and only play a
not significantly related to the CSP strengths index (model negligible role in calculating pay duration,10 we believe
2.2). Thus, hypothesis 1b is not supported. that we can partly allay potential endogeneity concerns.
Regarding control variables, the lack of significance of Nevertheless, as in many corporate governance studies,
prior performance may reflect our sample of large gener- endogeneity remains a potential concern. Therefore, we
ally profitable firms, which may reduce the sensitivity of adopt Fich and Shivdasani’s (2006) reverse logit approach
CSP to firm financial performance. Further, there is a lack to provide some additional empirical indication that our
of sensitivity of the CSP of sample firms to CEO charac- results are not affected by endogeneity or reverse causality.
teristics. Interestingly, we observe that two accounting- We estimate the logit regression that explains above-me-
based control variables, namely, size and sales growth, dian time horizon and PPS and show that these above-
have a significant influence in the same direction for both median compensation characteristics are not driven by the
CSP weaknesses and strengths (comparable to the findings previous year’s CSP weaknesses or strengths. These find-
of McGuire et al. 2003). These findings support the argu- ings further suggest that our results are not driven by
ments that weaknesses and strengths often follow different endogeneity or reverse causality.
dynamics, which supports those that CSP weaknesses and
strengths should be analyzed separately.
Discussion and Conclusions
Robustness Checks In this study, we investigated the impact of CEO com-

pensation design on corporate social behavior. In general,
As a robustness test, we estimated our models using we provide evidence that CEO compensation design is
ordinary least squares (OLS) regressions that produced significantly related to CSP. Results confirm our assertion
almost identical results. Moreover, since our dataset that pay-performance sensitivity and compensation dura-
contained multiple observations of the same firm, we also tion exhibit differing relationships to CSP, suggesting that
tested random effects Tobit models. As mentioned before, the two compensation design characteristics differ in their
typical panel regression methods must be used with cau- impact on how decisions are framed. This may explain
tion, given the limited number of firms per year in our prior conflicting results and adds insight on the relationship
dataset. However, random effects Tobit models lead to between executive compensation and CSP.
qualitatively similar results. In particular, while leading to Our results indicate that high PPS incentivizes CEOs to
slightly lower p-values, the qualitative results are the avoid CSP weaknesses. These findings are congruent with
same in all models, except duration loses its significance the BAM (Martin et al. 2013; Wiseman and Gomez-Mejia
when analyzing the impact on the CSP weaknesses index 1998). In the context of high PPS, the potential negative
(compare to model 1.2). consequences of poor social performance may dominate.
As mentioned before, we also tested various adaptations Thus, PPS increase the relevance of the potential risk of
of key variables. Regarding the dependent variables, we poor CSP. As hypothesized, we also found high PPS to be
controlled for a potential bias owing to the changing associated with reduced CSP strengths, suggesting that PPS
number of CSP indicators per year by calculating CSP discourages exemplary social performance. This finding
indices that only include indicators with constantly avail- supports our arguments that PPS directs managerial prior-
able KLD assessments during the time period. In another ities towards actions more likely bring performance bene-
test, we used the CSP scores as the weighted average of the fits that preserve existing gains. Thus, in the context of
six KLD dimension sub-scores with equally weighted KLD social performance, PPS represents a ‘double edged sword’
dimensions to calculate the CSP weaknesses and strengths which may imply a more neutral CSP profile (fewer
indexes. Furthermore, we tested the adaptations of the PPS weaknesses, but also reduced exemplary social perfor-
measure using a reduced time to maturity to account for the mance). Regarding compensation duration, we found that a
possibility that options could be exercised before reaching long-term time horizon is associated with fewer CSP
their maturity date. All results were robust to these weaknesses. It is intriguing that while compensation
modifications. duration had no significant relationship with CSP strengths,
Regarding potential reverse causality concerns, we the association with PPS was negative. One possible
referred to Coombs and Gilley (2005), who looked at the
10
CEO compensation–CSP relationship from a different Pay duration is calculated as the weighted average time horizon of
the different CEO pay components (see above for more details). As
angle and tested the effect of CSP on different CEO
the time horizon of salaries is always zero, and as salaries account for
compensation elements. Coombs and Gilley (2005) found less than 10% of the total CEO compensation (on average across our
that only CEO base salaries are substantially affected by sample), the effect of salary levels on pay time horizon is small.
123
explanation is that PPS provides stronger incentives for evaluations of CSP. Most fundamentally, each measure is
executives to focus on actions which ‘do no harm’, rather based on implicit or explicit theorizations of social per-
than building strong social performance—a strategy which formance. This theorization is reflected in the scope of
brings only uncertain performance benefits. dimensions used and the weight given specific dimensions
At a broader level our findings of a negative relationship of social performance such as environmental issues,
between compensation duration and weak CSP suggests broader social concerns, or relations with specific stake-
that extending vesting periods or increasing the relative holders such as employees or the local community. For
share of long-term focused compensation components may example, certain ratings (such as KLD) give more weight
reduce incentives for actions with potentially risky social to social issues, whereas others places more emphasis on
consequences. Taken in the context of an insignificant issues relating to employees, while others emphasize
relationship between pay duration and the CSP strengths environmental concerns (Chatterji et al. 2016). Further,
index, our findings suggest that while executives may measurement of CSP implies judgment regarding what
believe that CSP weaknesses may jeopardize future per- represents accepted or acceptable actions regarding a par-
formance and negatively impact their incentive compen- ticular dimension of social performance. For example,
sation, the long-term benefits of CSP strengths may be less what criteria should be included in measuring environ-
clear. This perspective is congruent with Lange and mental responsibility or employee relations, and what
Washburn’s (2012) argument that external observers (and constitutes ‘acceptable’ performance along each dimension
implicitly the market) react more strongly to poor social (Griffin 2000)? As a result, development of a ‘universal’
performance than to strong social performance, as well as measure of CSP is unlikely. However, as Griffin (2000,
overweighing the probability of negative outcomes. In p. 483) notes ‘‘Universal measures suggest that time, cul-
essence, the downside of poor social performance would be ture, industry, and contextual variables do not make a
more significant than the benefits of strong social perfor- difference. In doing so it suggests a common set of pref-
mance. This would be particularly relevant given that our erences for various stakeholders of the firm … A universal
measure of duration taps the time frame in which the measure potentially oversimplifies this incredibly complex
executive may be able to limit exposure to downside risk. It construct rather than relishing the complexity’’ of social
is also congruent with the literature on CEO career hori- performance. Thus, we acknowledge that our findings may
zons (Heyden et al. 2015) as well as time discounting, be influenced by the theorization of social performance
which suggests that gains are discounted to a greater extent implicit in the KLD measure. Thus, we encourage future
than are losses over the long term (Frederick et al. 2002). In research that makes use of alternative measures of social
encouraging a short-term time perspective, a short-term performance to further explore the implications of different
compensation duration focuses CEO attention on actions conceptualizations and operationalizations of CSP.
that are likely to bring short-term payoffs, rather than In focusing on the effects of executive compensation our
longer-term benefits of strong CSP. In essence, a short study does not investigate one important influence on CSP:
compensation duration appears to incentivize CEOs in Managerial values. Managerial values are often an impor-
avoiding the downside risk of poor CSP, rather than tant driver of social performance as illustrated by Indra
encouraging strong social performance. The benefits of Nooyi of PepsiCo, John Makay of Whole Foods, and Anita
strong social performance—either in terms of wealth Roddick of The Body Shop. For example, Chin et al.
preservation or loss avoidance—would be unlikely to (2013) found CEO political ideology to be related to CSP
manifest in a short-term time frame. such that firms led by more ‘liberal’ CEO’s exhibited
Our study also has limitations. While the KLD dataset higher CSP. From a theoretical perspective it has been
has been extensively used in premier journals and is con- argued that characteristics such as authentic leadership and
sidered to be among the most comprehensive and promi- the manager’s personal values are often driers of CSP
nent CSP index (Coombs and Gilley 2005; Deng et al. (Hemingway and Maclagan 2004; Walumbwa et al. 2008).
2013; Hillman et al. 2001; Johnson and Greening 1999; There is also evidence for the CSP implications of lead-
Kim et al. 2012; Surroca et al. 2010; Waddock and Graves ership characteristics such as transformational leadership
1997) other researchers have raised several criticisms and ethical values (Groves and LaRocca 2011). In addition,
(Entine 2003; Griffin 2000; Griffin and Mahon 1997). KLD the recognition of leading a firm widely regarded as
has been criticized for the extent to which it emphases (or socially responsible can be an important motivation for
does not emphasize) specific dimensions of CSP, and for strong CSP. Future research can examine the implications
methodological choices regarding how scores are calcu- of leadership characteristics in several ways. For example,
lated (Griffin 2000; Griffin and Mahon 1997). Indeed, leadership characteristics may moderate the relationship
Chatterji et al. (2016) compare six social responsibility between executive compensation and social performance
ratings, including KLD, and note that they offer divergent such that authentic or value-driven leaders may be less
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Do Contracts Make Them Care The Impact of CEO Compensation Design On Corporate Social Performance

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J Bus Ethics

Do Contracts Make Them Care? The Impact of CEO

Received: 3 December 2016 / Accepted: 26 May 2017

1. CSP (overall)b 0.54 0.11

Table 2 Results of regression

Robustness Checks In this study, we investigated the impact of CEO com-

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