Rights statement: Copyright © 2017, INFORMS
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Final published version
Research output: Contribution to Journal/Magazine › Journal article › peer-review
Research output: Contribution to Journal/Magazine › Journal article › peer-review
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TY - JOUR
T1 - Does Pay Activism Pay Off for Shareholders?
T2 - Shareholder Democracy and its Discontents
AU - Dasgupta, Sudipto
AU - Noe, Thomas
N1 - Copyright © 2017, INFORMS
PY - 2019/4/1
Y1 - 2019/4/1
N2 - Typically, shareholders are not sure whether boards act in their interest or have been captured by management. They are also less well informed than boards about firm investment opportunities and operating conditions. We develop a model, consistent with these observations, in which discretionary compensation payments to managers might increase firm value or might simply enrich managers at the expense of shareholders. After observing the board’s compensation and investment policies, shareholders use Bayes’s rule to update the probability that the board is captured. Shareholders are “outraged” if this updated probability is sufficiently large. Outrage is costly for the board. Shareholder democracy, by enabling outrage to constrain board actions, typically lowers firm value relative to either governance regimes that insulate boards from shareholder outrage or regimes that ban discretionary compensation altogether.
AB - Typically, shareholders are not sure whether boards act in their interest or have been captured by management. They are also less well informed than boards about firm investment opportunities and operating conditions. We develop a model, consistent with these observations, in which discretionary compensation payments to managers might increase firm value or might simply enrich managers at the expense of shareholders. After observing the board’s compensation and investment policies, shareholders use Bayes’s rule to update the probability that the board is captured. Shareholders are “outraged” if this updated probability is sufficiently large. Outrage is costly for the board. Shareholder democracy, by enabling outrage to constrain board actions, typically lowers firm value relative to either governance regimes that insulate boards from shareholder outrage or regimes that ban discretionary compensation altogether.
KW - governance
KW - shareholder activism
KW - executive compensation
KW - discretionary pay
KW - charter amendments
U2 - 10.1287/mnsc.2017.2854
DO - 10.1287/mnsc.2017.2854
M3 - Journal article
VL - 65
SP - 1810
EP - 1832
JO - Management Science
JF - Management Science
SN - 0025-1909
IS - 4
ER -