Corporate governance and CEO compensation in Indian firms

ARTICLE IN PRESS Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ Contents lists available at ScienceDirect Journal of Contemporary Accounting & Economics j o u r n a l h o m e p a g e : w w w. e l s e v i e r. c o m / l o c a t e / j c a e 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 Corporate governance and CEO compensation in Indian firms Q1 Sudhir Shiv Kumar Jaiswall a,b,*, Asish Kumar Bhattacharyya c a University of Calcutta, Kolkata, West Bengal, India Finance and Control Group, Indian Institute of Management Calcutta, Kolkata, West Bengal, India c School of Corporate Governance and Public Policy, Indian Institute of Corporate Affairs, Manesar, Gurgaon, Haryana, India b Q3 A R T I C L E I N F O Article history: Received 5 May 2014 Received in revised form 23 May 2016 Accepted 8 June 2016 Available online Q4 Keywords: CEO compensation Corporate governance Ownership structure Board Public sector Private sector India A B S T R A C T We examine the role of the board, ownership, and CEO characteristics in CEO compensation in Indian firms. Contrary to the evidence documented in prior studies, we find that CEO compensation is not associated with board characteristics. Instead, compensation is associated with firm’s ownership attributes and its CEO’s tenure. We also document that leaving out CEO fixed effects in a longitudinal compensation study can lead to potentially erroneous conclusions about the role of several governance attributes in CEO compensation contracting. Finally, we find that CEO compensation attributed to ownership characteristics in the private sector is positively related to future firm performance, whereas remuneration attributed to board and CEO characteristics in both private and public sectors are not. Our evidence is consistent with efficient CEO compensation contracting, rather than CEO rent extraction, in Indian firms. © 2016 Elsevier Ltd. All rights reserved. 37 38 39 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 56 57 58 59 60 61 1. Introduction Academics, government representatives, as well as business media have raised their concerns over high CEO compensation in Indian firms and have indicated the failure of corporate governance and regulation to curb rent extraction and excessive compensation (Bose, 2014; Chakrabarti et al., 2012; Ghosh, 2010; Jaiswall and Firth, 2009; Pande and Dubey, 2014; Rai, 2009; Singh, 2007). They suggest that CEOs collude with their firm’s board to draw higher compensation. Though prior research has examined the determinants of total CEO compensation in Indian firms, it has not formally investigated whether CEO compensation exhibits rent extraction or alternatively whether CEO compensation contracting is efficient. Furthermore, compensation studies in the Indian context use a small sample, over a limited period, and have methodological concerns pointed out by Graham et al. (2012) and Petersen (2009).1 Consequently, the evidence for the role of corporate governance in CEO compensation in Indian firms suffers from limited generalizability, omitted variable bias, and inflated statistical significance. These arguments indicate an incomplete understanding of the association of CEO compensation contracting with corporate governance in Indian firms. In this study, we examine the association between CEO compensation and board, ownership, and CEO characteristics in Indian firms and investigate whether higher CEO compensation reflects rent extraction or efficient contracting.2 Using improved methods, we attempt to fill the void and contribute to a better understanding of CEO compensation contracting in India. Q2 * Corresponding author. University of Calcutta, Kolkata, West Bengal, India. E-mail address: [email protected] (S.S.K. Jaiswall). 1 The issue is not restricted to compensation studies in the Indian context. Compensation studies from other settings (such as Caylor and Lopez, 2013, Fernando and Xu, 2012, Firth et al., 2006, etc.) also do not cluster standard errors by firm and/or include managerial fixed effects. 2 We use the words compensation, pay, and remuneration synonymously. http://dx.doi.org/10.1016/j.jcae.2016.06.001 1815-5669/© 2016 Elsevier Ltd. All rights reserved. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS 2 62 63 64 65 66 67 68 69 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 100 101 102 103 104 105 106 S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ According to Chakrabarti et al. (2012), Jaiswall and Firth (2009), and Tomar and Korla (2011), the level of CEO compensation is related to both ownership structures and board attributes.3 However, we posit that total CEO compensation is associated with ownership attributes and not board attributes in Indian firms. Shareholding in Indian firms is concentrated in the hands of the promoters and financial institutions, who typically own the largest and second largest proportion of a firm’s equity, respectively (Chakrabarti et al., 2012; Sarkar and Sarkar, 2000).4 These shareholders have the financial incentive to monitor the management and curb rent extraction (Shleifer and Vishny, 1986). Large shareholders including promoters and institutional investors play an active role in monitoring management (Sarkar and Sarkar, 2000). For example, the Government of India annually evaluates its companies on their performance along financial and non-financial parameters. In contrast, boards play an advisory role in guiding management (Cappelli et al., 2010; Sarkar and Sarkar, 2009) and not a monitoring role (Cappelli et al., 2010; Haldea, 2010). For example, independent directors are appointed for fulfilling regulatory norms rather than for actively monitoring the management (Haldea, 2010). Therefore, we expect that CEO compensation in Indian firms would be associated with ownership structures instead of board attributes. Our study uses a sample of 5045 CEO-year observations over the period 2002–2013. The sample is much larger, over a longer duration, and more representative of Indian firms than the samples used in prior compensation studies in an Indian setting. Thus, the role of a firm’s corporate governance in CEO compensation documented in our study is more likely to be generalizable across Indian firms. Our study employs a pooled linear regression with CEO fixed effects. The empirical specification explains 85% of the variation in total CEO compensation, about twice of that explained in prior compensation studies based on Indian firms. To investigate whether CEO compensation reflects rent extraction or efficient contracting, we improvise upon the empirical approach of Core et al. (1999) and examine the associations between compensation attributed to the board, ownership, and CEO characteristics and future firm performance. Our study provides interesting insights for researchers, policy makers, and board members. First, the results show that leaving out CEO fixed effects can lead to erroneous conclusions about the role of governance attributes in CEO compensation contracting in the Indian scenario. Therefore, our study confirms the importance of including CEO fixed effects in longitudinal compensation studies. When managerial fixed effects are included in compensation regression, Graham et al. (2012) document a change in the magnitude and/or statistical significance of the coefficients of observed managerial attributes and the economic determinants of compensation; however, their empirical model did not have ownership and board characteristics as explanatory variables. Our study extends Graham et al. (2012) by documenting that the magnitude and/or the significance of the coefficients on ownership and board attributes also change when CEO fixed effects are included. Second, our study documents that CEO compensation is associated with ownership structures and not board attributes in Indian firms. This differs from the prior evidence of the role of both board and ownership structures in CEO compensation in Indian firms. Third, our study finds that compensation is not different for CEOs who are also the board chair or a promoter and in firms with larger boards or fewer independent directors. Therefore, these CEOs do not earn higher pay, contrary to the evidence from prior studies based on Indian firms. Fourth, the determinants of CEO compensation in the private sector firms are quite different from the determinants in the public sector firms. In particular, blockholders play an important role by monitoring and constraining CEO compensation in private sector firms, whereas in public sector firms, CEO compensation has an insignificant sensitivity to firm performance and a negative sensitivity to firm risk. To the best of our knowledge, our study is the first to document such differences in the Indian context. Lastly, we document a positive association between CEO compensation related to the ownership structures and future firm performance in the private sector. We also find a non-significant association between CEO compensation attributed to the board and managerial characteristics and future firm performance in both the private and the public sectors in India. Thus, we do not find evidence to suggest rent extraction in private and public sector firms in India unlike those in the USA (Core et al., 1999). Rather, our evidence indicates that ownership structures have a role in CEO compensation contracting in the private sector. Our paper is organized as follows: Section 2 reviews the empirical literature on CEO compensation, describes the Indian institutional environment, and develops the hypotheses. Section 3 describes the sample and the empirical methodology. Section 4 provides the summary statistics and presents the results. Finally, Section 5 concludes the study. 107 108 109 110 111 112 113 114 115 116 117 118 119 120 121 122 2. Literature review and motivation 2.1. Review of the literature on executive compensation Executive compensation literature has documented that the boards tie CEO compensation to firm performance not only to reward CEOs for superior firm performance but also to align their incentives with those of the shareholders. The choice of performance measures in compensation contracting differs across countries. CEO compensation is associated with stock return in the USA (Core et al., 1999), Japan (Kaplan, 1994), South Korea (Kato et al., 2007), Australia (Clarkson et al., 2011), and China (Kato and Long, 2006), but not in India (Jaiswall and Firth, 2009), due to the sparse use of equity-based pay in Indian firms (Balasubramanian et al., 2010). Instead, a positive association between CEO compensation and ROA (return on 3 Chakrabarti et al. (2012), Jaiswall and Firth (2009), and Tomar and Korla (2011) report a significant coefficient on at least one board attribute and at least one ownership attribute. 4 “Promoter” is widely used in India to refer to any person who directly or indirectly controls a firm. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 123 124 125 126 127 128 129 130 131 132 133 134 135 136 137 138 139 140 141 142 143 144 145 146 147 148 149 150 151 152 153 154 155 156 157 158 159 160 161 162 163 164 165 166 167 168 169 170 171 172 173 174 175 176 177 178 179 180 181 182 183 3 assets) has been documented amid the Indian firms (Ghosh, 2006, 2010; Jaiswall and Firth, 2009; Parthasarathy et al., 2006). Compensation also increases with accounting earnings in Japan (Kaplan, 1994) and Hong Kong (Cheng and Firth, 2006), among others. Researchers have documented an association between executive compensation and observable firm characteristics. Large, diverse, and growth firms are more complex and need CEOs that are more talented. Accordingly, a positive association between CEO compensation and firm size has been documented in the USA (Core et al., 1999), Hong Kong (Cheng and Firth, 2006), India (Chakrabarti et al., 2012; Ghosh, 2006, 2010; Jaiswall and Firth, 2009; Parthasarathy et al., 2006; Tomar and Korla, 2011), etc. Executive compensation is also greater in firms with higher growth opportunities in the USA (Smith and Watts, 1992), Hong Kong (Ho et al., 2004), and India (Jaiswall and Firth, 2009), among others. Greater business complexity leads to higher CEO compensation in the USA (Rose and Shepherd, 1997) and India (Ghosh, 2006). The higher the business uncertainty, the higher is the risk a CEO faces and the greater is the CEO compensation. Thus, there is a positive association between a firm’s risk and executive compensation in the USA (Core et al., 1999). In contrast, Ghosh (2006) and Jaiswall and Firth (2009) document a negative association between total CEO compensation and a firm’s risk, suggesting a disincentive for risk taking in Indian firms. CEO compensation also exhibits a negative association with a firm’s age in India (Ghosh, 2006), indicating higher levels of compensation in younger firms. Studies have also documented the association of CEO compensation with CEO characteristics, both time-varying (such as experience, tenure) as well as time-invariant (such as education, charisma, innate ability, etc.) in many countries (Carpenter et al., 2001; Graham et al., 2012; Tosi et al., 2004). In India, compensation is higher for CEOs who are promoters (Ghosh, 2006; Parthasarathy et al., 2006) and have a greater tenure (Ghosh, 2006). The evidence is mixed about higher compensation for CEOs who are board chairpersons of Indian firms. Parthasarathy et al. (2006) do not find any association during 2004–2005, whereas Ghosh (2006) and Tomar and Korla (2011) document a higher compensation for CEOs who are also board chairpersons. A large body of empirical research has investigated how executive compensation is associated with corporate governance. One stream of research examines the role of ownership structures in compensation. Large blockholders and institutional shareholders play an important role in monitoring executive compensation (Core et al., 1999). However, the overall evidence is unclear whether ownership structures play an effective role in CEO compensation in Indian firms. Chakrabarti et al. (2012) document a positive association between CEO compensation and the non-promoter institutional investors’ total shareholding in Indian firms, whereas Parthasarathy et al. (2006) find no association. There is mixed evidence of the relation between CEO compensation and promoter shareholding; Jaiswall and Firth (2009) find no association, whereas Chakrabarti et al. (2012) report a positive association. There is also mixed evidence of whether CEO compensation is higher in business group-affiliated firms in India; Ghosh (2006) does not find any evidence of higher compensation in these firms, whereas Chakrabarti et al. (2012), Jaiswall and Firth (2009), and Ghosh (2010) do. CEO compensation is lower in state-owned firms (Parthasarathy et al., 2006; Tomar and Korla, 2011). Researchers are yet to investigate the role of blockholders in CEO compensation in Indian firms. Another stream of research looks at the role of board structures in executive compensation. Effective boards (smaller boards, boards with a greater proportion of independent directors, a smaller proportion of busy directors among independent directors, a greater number of board meetings, etc.) can constrain the CEO and strengthen compensation contracting through better monitoring. As a result, a negative association between executive compensation and board effectiveness has been documented in the USA (Boyd, 1994; Core et al., 1999), Taiwan (Lin, 2005), and Hong Kong (Cheng and Firth, 2005), among others. In contrast, prior studies in the Indian context provide mixed evidence of the role of boards in compensation. The relation between CEO compensation and board size in Indian firms is unclear. Ghosh (2006) and Tomar and Korla (2011) find an insignificant association, whereas Chakrabarti et al. (2012) document a positive association between CEO pay and board size. CEO compensation in India is higher when boards have a remuneration committee (Jaiswall and Firth, 2009). The evidence is also mixed about the association between CEO compensation and the proportion of independent directors on the board. While Ghosh (2006) documents a positive association and Tomar and Korla (2011) document a negative association, Parthasarathy et al. (2006) do not find a statistically significant association between CEO compensation and the proportion of independent directors. The role of busy independent directors and the number of board meetings in executive compensation contracting in Indian firms is yet to be understood. 2.2. The Indian context and institutional environment India has a hybrid corporate governance system with elements of both the common law countries as well as the code law countries (Sarkar and Sarkar, 2000). The Securities and Exchange Board of India regulates the securities market. It has been improving corporate governance norms and their compliance by listed firms. Despite strong investor protection laws and corporate governance rules, enforcement has been weak (La Porta et al., 2000) as firms are seldom penalized for breaching governance norms (Balasubramanian et al., 2010). Concentrated ownership is a common feature in Indian firms. A firm’s promoters typically own the largest proportion of its equity shares. Chakrabarti et al. (2012) document an average equity shareholding of 50.4% by promoters who own at least 38% of a firm’s equity in three out of four Indian firms. Financial institutions also own large blocks of shares. Sarkar and Sarkar (2000) report that despite an average of 6.2% of shareholding in manufacturing firms, institutional investors collectively owned more than a quarter of a firm’s total equity shares in 6.7% of these firms. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS 4 184 185 186 187 188 189 190 191 192 193 194 195 196 197 198 199 200 201 202 203 204 205 206 207 208 209 210 S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ In India, control over companies rests either with government or with private parties. Accordingly, companies are grouped into the public and private sectors. Indian private sector firms are owned and controlled by non-government entities such as Indian business groups, multinationals, and individual promoters. Of the top 500 listed Indian firms, 89% are in the private sector and account for 78% of the total market capitalization (Chakrabarti et al., 2008). Public sector firms account for the remaining. These firms are owned and controlled either by the central government or the state governments. They are largely concentrated in select industries and are dominant players in industries such as banking, defense, oil, and natural gas, etc. They were established or nationalized to pursue non-commercial objectives and public interests, such as the creation and preservation of employment, the equitable distribution of wealth, the development of basic and strategic industries, etc. Their legal charter requires them to pursue public interests and social mandates as outlined by the government (Varottil, 2013). Their activities, therefore, are not always directed toward profit maximization. For example, government-owned Coal India Limited sells its products at below-market prices under government orders (Varottil, 2013). The national air carrier, Air India Limited, operates several unprofitable routes providing air connectivity to remote areas. An important characteristic of the Indian corporate sector is the dominance of private sector firms affiliated to business groups (Narayanaswamy et al., 2012). Business group-affiliated firms account for three-fourths of all private sector companies in the top 500 listed Indian firms. A business group comprises of legally separate firms connected together by a common promoter. These firms usually identify their promoter in their annual report.5 They have cross-ownership, interlocking directors, sharing of managerial personnel, etc., as their key feature.6 While business groups in India indulge in tunneling profits (Bertrand et al., 2002), they also mitigate high transaction costs arising from various forms of market imperfections, which helps their affiliated firms outperform the independent ones (Khanna and Palepu, 2000). Total CEO compensation in Indian firms usually comprises of salary, performance bonuses, commissions, allowances, perquisites, and retirement benefits.7 Stock options are not a common feature of CEO compensation; fewer than 15% of the top 500 Indian firms grant stock options to their CEO and the value of the grants are usually small (Balasubramanian et al., 2010). The compensation of a CEO (officially designated as the Managing Director) is regulated under Indian corporate law, which empowers the remuneration committee of a firm’s board to determine CEO compensation. However, the regulation requires firms to disclose the amount of CEO compensation in their annual report; it does not, however, require an explicit disclosure of how the compensation was determined. Consequently, the CEO compensation determining process is not observed by researchers. 211 212 213 214 215 216 217 218 219 220 221 222 223 224 225 226 227 228 229 230 231 232 2.3. CEO compensation and corporate governance in Indian firms We posit that CEO compensation in Indian firms is associated with ownership structures and not board attributes. Indian firms have concentrated ownership. Their promoters typically own the largest proportion of their common stock, followed by financial institutions (Chakrabarti et al., 2012; Sarkar and Sarkar, 2000). Given a large amount of wealth at stake, large shareholders have the incentive to monitor actively, scrutinize management, and curb rent extraction (Shleifer and Vishny, 1986). The Indian government evaluates the performance of its companies and awards a performance rating annually, based on which a public sector company determines the performance related pay of its employees and management (Bhattacharyya, 2013). According to Sarkar and Sarkar (2000), large shareholders provide efficient monitoring and contribute to better firm performance in India. Therefore, we expect CEO compensation to be associated with ownership structures. Boards add value to a firm by playing two roles. First, they can provide strategic guidance in areas where the management may not have the requisite expertise. By leveraging their social and political influence, independent directors help Indian firms to establish a better relationship with its external environment (Sarkar and Sarkar, 2009). Second, boards can provide oversight and diminish a CEO’s power to influence the compensation contracting process. Through effective monitoring of the top management, they can curb principal–agent and majority–minority shareholder conflicts and thus reduce agency cost. However, boards play a less important role in monitoring management in firms with concentrated ownership (Booth et al., 2002). In the Indian context, boards play a strategic advisory role while being passive monitors (Cappelli et al., 2010). Sarkar and Sarkar (2009) document that busy independent directors regularly attend board meetings and that they add value to a firm by helping the management with their expertise and external social connections. While directors have a fiduciary duty to protect shareholders’ interest by actively monitoring management, Haldea (2010) suggests that independent directors in a majority of Indian companies are appointed by the management, and the promoters largely to fulfill 233 234 235 236 237 238 239 240 241 242 243 244 5 For example, the Aditya Birla group is a $40 billion diversified group and the third largest in India. It operates in various industries (and controlling companies) including aluminum (Hindalco, Novelis), cement (Ultratech Cements), textile (Aditya Birla Nuvo, Grasim), telecom (Idea Cellular), financial services and life insurance (Birla Sun Life), etc. K. M. Birla is the group’s chairperson and promoter. 6 A detailed discussion of business groups can be found in Basu and Sen (2015) and Khanna and Palepu (2000). 7 In 2008, the Government of India adopted guidelines for the annual performance evaluation of its companies in order to make them performanceoriented and competitive in their industry (Bhattacharyya, 2013). These companies are evaluated based on their annual performance along six financial and eight non-financial parameters. At the end of the annual exercise, every company receives an overall performance rating. Financial parameters account for 50% of the rating, whereas non-financial ones account for the remaining. Profitability is one of the financial parameters and carries a weight of only 10–12% in a company’s overall performance rating. Based on its rating, a company can award its employees and top management a performance related pay, not exceeding 200% of their basic salary. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 245 246 247 248 249 250 251 252 5 regulatory norms rather than to be active monitors. We posit that boards, being passive monitors, play a less important role in CEO compensation contracting in Indian firms. Therefore, we do not expect CEO compensation to be associated with board structures and processes. We have the following null hypotheses for the association of CEO compensation with ownership and board attributes: H1a0. There is no association between total CEO compensation and ownership attributes. H1b0. There is no association between total CEO compensation and board attributes. 253 254 255 256 257 258 259 260 261 262 263 264 265 266 267 268 269 270 271 272 273 274 275 276 277 278 279 280 281 282 283 284 285 286 287 288 289 290 291 292 293 294 2.4. Does CEO compensation reflect rent extraction or efficient contracting? Academics, business media, as well as policy makers have raised their concerns over high CEO compensation in Indian firms and have indicated rent extraction and a failure of corporate governance to curb excessive pay. In 2007, the Prime Minister of India, Dr. Manmohan Singh advised Indian business leaders to “resist excessive remuneration to promoters and senior executives” (Singh, 2007). More recently, in 2014, an article was published in Business Standard, a leading business newspaper in India, which highlights excessive CEO compensation at Wipro Ltd, a leading information technology company, despite the firm’s sluggish growth. Chakrabarti et al. (2012) suggest that excessive compensation in Indian firms reflects not only agency cost and rent extraction by CEOs but also a failure of regulation. Jaiswall and Firth (2009) also posit the presence of rent-seeking in family-run Indian firms, where CEOs “use their power to pay themselves high compensation.” The source of CEO power may be the ownership structure, board structure and process, or a CEO’s own expertise and position (Finkelstein, 1992; Shivdasani and Yermack, 1999). CEOs can obtain compensation more favorable than that under optimal contracting in several ways. They exert their influence during the selection of independent directors (Haldea, 2010; Shivdasani and Yermack, 1999), who subsequently feel obligated to reciprocate and not jeopardize the relationship by questioning the management too much. They also influence their compensation committee to do a more favorable competitive benchmarking of their pay (Bizjak et al., 2008), appoint a helpful compensation consultant (Murphy and Sandino, 2010), and award them a higher pay (Jaiswall and Firth, 2009). Higher CEO compensation may be consistent with either labor market demand or rent extraction (Core et al., 1999). On one hand, CEO compensation may be higher due to greater equilibrium pay for a talented CEO (Core et al., 1999), which reflects efficient contracting (Castanias and Helfat, 1991). Talented CEOs not only earn higher equilibrium compensation due to a greater demand for their talent but also presumably work hard and use their talents to benefit their firm and improve its performance. They earn more while contributing to better firm performance, in accordance with efficient contracting. When governance structures play a role in efficient contracting, CEO compensation attributed to governance characteristics is expected to exhibit a positive association with future firm performance (Core et al., 1999). On the other hand, CEO compensation may be higher due to rent extraction by a CEO, which indicates a failure of governance in compensation contracting and curbing agency problems. When corporate governance structures and processes are weak, monitoring is less effective and CEOs can extract rent to the detriment of the firm. They can collude with their firm’s board to draw higher compensation and on terms that are more favorable to them rather than to the firm’s interests (Bebchuk et al., 2002; Bizjak et al., 2008; Core et al., 1999; Jaiswall and Firth, 2009). The stronger are a firm’s governance processes, the more difficult it is for its CEO to extract rent. Relative to firms with stronger governance, firms with weaker governance have greater rent extraction, higher agency cost, and poorer future performance. Hence, when CEOs extract rent, CEO compensation related to corporate governance and managerial attributes exhibits a negative association with future firm performance (Core et al., 1999). Therefore, we have the following three null hypotheses to understand whether CEO compensation reflects rent extraction or efficient contracting and whether rent extraction or efficient contracting is related to board, ownership, or managerial attributes: H2a0. There is no association between CEO compensation related to board attributes and future firm performance. H2b0. There is no association between CEO compensation related to ownership attributes and future firm performance. H2c0. There is no association between CEO compensation related to CEO attributes and future firm performance. 295 296 297 298 299 300 301 302 303 3. Sample selection and empirical methodology 3.1. Sample selection Our study uses compensation, financial, governance, and stock ownership data from the September 2013 edition of the Prowess database. A popular source of financial data for Indian firms, the Prowess database has been used in prior accounting, finance, and governance studies in the Indian context (Balasubramanian et al., 2010; Basu and Sen, 2015; Khanna and Palepu, 2000). Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 6 304 305 Q7 Table 1 Sample construction. 306 307 308 309 310 311 312 313 314 315 316 317 318 319 Number of observations Number of CEO compensation observations in the Prowess database (with the fiscal year ending between March 1995 and March 2013) from firms that were included in the S&P BSE500 index at any point of time from the inception of the index in August 1999 until 2013. Less number of observations prior to 2002. Less number of observations where the fiscal period is not 12 months. Less number of observations from a year in which a CEO left office. Less number of observations with missing inputs needed for computing the variables used in our study. Number of CEO-firm-year observations (with the fiscal year ending between March 2002 and March 2013) for the regression of LnCEOcomp on ownership, board, managerial, and firm characteristics. Number of observations from the private sector. Number of observations from the public sector. Running total of the number of observations 7400 (42) (234) (998) (1,081) 7358 7124 6126 5045 5045 4669 376 320 321 322 323 324 325 326 327 328 329 330 331 332 333 334 Our sample is drawn from the firms listed on the Bombay Stock Exchange (BSE) and included in the S&P BSE 500 Index, which comprises of the top 500 BSE-listed firms and accounts for 94.96% of the market capitalization of all BSE-listed firms.8 While there are only 500 firms in the index on a given date, 1153 firms were included in the index at some point in time since its inception on August 9, 1999, and were either subsequently excluded from the index or continued to be included until 2013. Sample selection based on the expanded list of firms instead of only 500 firms increases the power of the tests, avoids survivorship bias, and enhances the generalizability of the results across firms. As the data is sparse until 2001, we start the sampling from 2002. Table 1 describes the procedure used to obtain the sample, an unbalanced panel of 5045 CEO-year observations between March 2002 and 2013. The sample has 1183 CEOs from 770 listed firms across 54 industries based on the two-digit National Industrial Classification (NIC). It represents 68% of the observations, 75% of the CEOs, 84% of the firms, and 96% of the industries represented by the S&P BSE 500 firms in the Prowess database during the sample period. The sample is also much larger (five times), spans a two times longer duration, and includes more firms (1.67 times) and CEOs (thrice) than the samples used in Ghosh (2006), Jaiswall and Firth (2009), Parthasarathy et al. (2006), Ghosh (2010), or Tomar and Korla (2011). 335 336 337 338 339 340 341 342 3.2. Empirical methodology To examine the association between CEO compensation and corporate governance attributes, we use OLS regression of the level of CEO compensation on ownership and board attributes, while controlling for the observed managerial attributes, the economic determinants of CEO compensation, as well as the year, industry, and CEO fixed effects. Our linear model is: LnCEOcompi,t = α1 MajorityHoldingi,t−1 + α 2 InstitutionalHoldingi,t−1 + α 3 Blockholdersi,t−1 + α 4 BGA i,t−1 + α 5 PSUi,t−1 + β1 BoardMeetingi,t−1 + β2 BoardSizei,t−1 + β3 IndDiri,t−1 + β 4 BusyIndDiri,t−1 + γ 1 LnTenureCEOi,t−1 343 + γ 2 CEOchairi,t−1 + γ 3 PromoterCEOi,t−1 + θ1 ROA i,t + θ2 FirmSizei,t−1 + θ3 MTBi,t−1 + θ 4 StockRetSDi,t−1 + θ5 Locationsi,t−1 + θ6 FirmAgei,t−1 + Constant + Year, Industry, and CEO fixed effects 344 345 346 347 348 349 350 351 352 353 354 355 356 357 358 359 (1) where LnCEOcomp is the natural log of price-deflated total compensation of a Managing Director, which is the official designation of a CEO as per Indian regulations in firm i during year t. Total compensation comprises of salary, performance bonuses, commissions, allowances, perquisites, and retirement benefits. The remaining variables are described below and their construction is discussed in Panel A of Appendix A. Continuous variables are winsorized at their 1% and 99% values to mitigate the effect of outliers in the data. Following prior studies, we include the following ownership characteristics: MajorityHolding, the percentage of the equity owned by the majority shareholder (Chakrabarti et al., 2012; Jaiswall and Firth, 2009); InstitutionalHolding, the percentage of the equity owned by non-promoter financial institutions (Chakrabarti et al., 2012; Parthasarathy et al., 2006); BGA, whether a firm is affiliated to a business group (Chakrabarti et al., 2012; Ghosh, 2006, 2010; Jaiswall and Firth, 2009); and PSU, whether the majority shareholder is the government (Jaiswall and Firth, 2009; Parthasarathy et al., 2006; Tomar and Korla, 2011). In addition, we include Blockholders, the number of blockholders to understand the role of block-holding in CEO compensation in India. 8 Using the exchange rate of Indian Rupees 62.4755 per US dollar, the total market capitalization of firms included in the S&P BSE 500 index was USD 1.03 trillion as on January 29, 2014. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 7 360 361 362 363 364 365 366 367 368 369 370 371 372 373 374 375 376 377 378 379 380 Following prior studies, we include the following board attributes: BoardSize, the number of directors on a firm’s board (Chakrabarti et al., 2012; Ghosh, 2006; Tomar and Korla, 2011) and IndDir, the proportion of independent directors on the board (Ghosh, 2006; Parthasarathy et al., 2006; Tomar and Korla, 2011). We also include BusyIndDir, the proportion of busy directors (those who sat on the board of three or more firms) among independent directors, and BoardMeeting, the number of board meetings held. Following prior studies, we control for CEO attributes and economic determinants of CEO compensation. The observable CEO attributes are: LnTenureCEO, CEO tenure (Ghosh, 2006); CEOchair, whether a CEO is also the board chair (Ghosh, 2006; Parthasarathy et al., 2006; Tomar and Korla, 2011); and PromoterCEO, whether a CEO is also the promoter (Ghosh, 2006; Parthasarathy et al., 2006). The economic determinants of CEO compensation are: ROA, firm’s ROA; FirmSize, size; MTB, growth opportunities; StockRetSD, risk; Locations, the degree of geographical complexity; and FirmAge, firm’s age. 9 For the hypotheses H1a0 and H1b0, the variables of primary interest are the ownership structures and the board attributes. A significant α1, α2, α3, α4, or α5 would indicate that the total compensation is related to ownership structures, whereas insignificant β1, β2, β3, and β4 would suggest that the total compensation is not related to board attributes. For the test of the hypotheses H2a, H2b, and H2c, our empirical approach is similar to Core et al. (1999). Our approach improvises upon Core et al. (1999) in two ways. First, we include ROA as a control variable to account for its meanreversion (Canarella et al., 2013). Second, Core et al. (1999, 390–391) ascertain the compensation attributed to the observed governance and managerial attributes, scale it by total CEO compensation, and use this ratio as their variable of primary interest. Instead, we decompose this ratio into three components: one each for the board, ownership, and observed CEO attributes. Unlike the use of a composite measure, the use of its three components helps us understand whether rent extraction or efficient contracting is related to board, ownership, or managerial attributes. Thus, we estimate the following linear model: 381 AvgFutureROAi ,t = φ1 Comp_Boardi ,t + φ2 Comp_Ownershipi ,t + φ3 Comp_CEOi ,t + ψ 1 ROAi ,t + ψ 2 Sizei ,t + ψ 3 ROA_SD5 yearsi ,t 382 383 384 385 386 387 388 389 390 391 392 393 394 395 396 397 398 + Constant + Year and Industry fixed effects + ε i ,t (2) Q5 where AvgFutureROA is either AvgFuture1ROA, AvgFuture2ROA, or AvgFuture3ROA, the firm i’s average ROA for one to three years subsequent to the year t in which CEO compensation was earned; Comp_Board, Comp_Ownership, and Comp_CEO are CEO compensation attributed to the observed board, ownership, and CEO characteristics, respectively, and scaled by the total compensation; ROA and FirmSize are as defined earlier, and ROA_SD5years is the standard deviation of ROA over the previous five years. Panel B of Appendix A describes these variables and their construction. The variables of primary interest for the test of hypotheses H2a0, H2b0, and H2c0 are Comp_Board, Comp_ Ownership, and Comp_CEO, respectively. Relative to firms with stronger governance, firms with weaker governance have greater rent extraction, higher agency costs, and poorer future performance. CEO compensation related to governance attributes has a negative association with future firm performance when higher CEO compensation reflects rent extraction (Core et al., 1999). A negative and significant coefficient on Comp_Ownership, Comp_Board, and Comp_CEO would, therefore, indicate rent extraction associated with ownership, board, and managerial characteristics respectively, whereas an insignificant coefficient would suggest that we find no evidence consistent with rent extraction. Under efficient contracting, compensation reflects demand for talent. Talented CEOs not only earn higher equilibrium compensation due to a greater demand for their talent, but they also work hard and use their ability to benefit their firm and improve its performance. Therefore, a positive and significant coefficient on Comp_Ownership, Comp_Board, and Comp_CEO would indicate efficient compensation contracting associated with ownership, board, and managerial characteristics respectively. 399 400 401 402 403 404 405 406 407 408 409 410 411 412 413 414 415 416 417 418 4. Summary statistics and results 4.1. Descriptive statistics Panel A of Table 2 presents a statistical summary of the data. CEOs earned an average nominal (price-deflated) total compensation of Rs. 18.6 million (Rs. 11.7 million) during the period 2002–2013. 10 The median (average) total revenue was Rs. 6.8 billion (31.2 billion). While 33% of the CEOs were also board chairpersons, 36% were promoters. In the sample, firms have about one blockholder. Majority shareholders owned 52% of a firm’s equity, whereas institutional investors held 16% of a firm’s equity. On average, a board met about six times a year and had eleven directors, of which 43% were independent directors; about half of these independent directors were busy directors, who sat on the board of three or more firms. Panel B of Table 2 presents the pairwise correlations among the variables. The correlation of total CEO compensation with its economic determinants shows that CEOs earn greater compensation in larger, more profitable, growth-oriented, 9 We use ROA as the measure of firm performance so that our results are comparable with those in prior studies. Our results are robust to the use of return on equity as the measure of firm performance. 10 In an untabulated analysis, we find that CEOs earned an average nominal (price-deflated) fixed salary of Rs. 8.1 (5.1) million and an average nominal (price-deflated) variable performance bonus of Rs. 7.9 (4.8) million. Salaries accounted for 63.2% of total CEO compensation, bonuses and commissions accounted for 21.3%, whereas allowances, perquisites, and retirement benefits accounted for the remainder 15.5% of total CEO compensation, on average. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 419 420 421 422 423 8 Panel A: Summary statistics Mean Std dev Lower quartile Median Upper quartile Total CEO compensation (Rs. thousand) Price-deflated total CEO compensation (Rs. thousand) Total revenue (Rs. million) LnCEOcomp Ownership attributes: MajorityHolding InstitutionalHolding Blockholders BGA PSU Board attributes: BoardMeeting BoardSize IndDir BusyIndDir CEO attributes: LnTenureCEO CEOchair PromoterCEO Economic determinants: ROA FirmSize MTB Locations StockRetSD FirmAge 18,568 11,663 31,156 8.601 38,012 17,585 124,255 1.316 3510 2482 2717 7.817 8440 5980 6840 8.696 19,322 12,991 17,585 9.472 40.3 5.1 0 0 0 52.0 13.4 1 1 0 63.7 24.9 1 1 0 52.4 16.1 0.89 0.56 0.07 16.7 12.9 1.01 0.50 0.26 6.36 11.37 0.435 0.489 2.53 3.33 0.165 0.315 5 9 0.364 0.250 6 11 0.455 0.500 7 13 0.538 0.750 1.710 0.33 0.36 0.955 0.47 0.48 1.253 0 0 1.872 0 0 2.442 1 1 0.120 8.565 1.697 3.36 0.031 34.87 0.082 1.505 1.214 3.61 0.013 21.72 0.070 7.656 0.967 1 0.022 19 0.107 8.522 1.252 2 0.029 27 0.158 9.434 1.944 5 0.037 48 (continued on next page) ARTICLE IN PRESS Variables S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 Table 2 Descriptive statistics. 450 451 452 453 454 Panel B: Correlations In this table, Pearson product-moment correlations are above the diagonal, whereas Spearman rank correlations are below the diagonal. Ownership attributes 2. 3. 4. . −0.13 0.30 0.08 −0.12 0.33 0.10 0.30 −0.37 . −0.38 −0.40 −0.15 0.24 −0.42 . 0.43 0.12 0.05 −0.21 0.04 0.21 0.31 −0.06 −0.02 −0.24 −0.04 0.30 −0.01 0.12 0.23 0.30 0.25 0.21 −0.20 0.11 Board attributes 5. 8. CEO attributes 9. 10. 11. 12. Economic determinants 6. 7. 13. 0.30 −0.39 −0.25 0.01 0.25 0.30 0.33 −0.01 0.13 0.21 0.25 0.20 0.18 −0.20 0.08 −0.40 0.40 . 0.07 −0.07 −0.15 0.11 0.05 . −0.32 0.27 0.05 −0.07 −0.32 . −0.02 0.05 0.01 −0.19 0.37 0.02 0.21 0.05 0.05 0.36 −0.22 0.10 0.10 0.24 −0.34 −0.04 0.16 0.02 0.24 −0.23 −0.19 0.08 0.10 0.32 −0.30 0.04 −0.03 −0.03 −0.11 0.21 −0.13 0.03 0.04 0.11 −0.21 0.10 0.09 −0.04 −0.07 −0.02 0.05 0.45 0.04 0.11 0.38 0.14 0.18 −0.03 −0.09 −0.05 −0.00 0.16 0.00 0.17 −0.07 −0.02 −0.16 −0.01 −0.01 −0.07 0.01 0.16 0.02 0.05 0.12 0.07 0.23 0.11 0.17 0.00 0.08 0.11 0.04 −0.14 0.09 0.24 0.24 0.30 0.30 −0.28 −0.22 . 0.09 −0.08 −0.14 0.12 . −0.14 0.06 −0.15 −0.18 . 0.18 −0.20 0.03 0.29 . −0.15 −0.09 0.31 0.09 0.14 −0.03 0.06 −0.14 −0.07 −0.10 0.23 −0.00 −0.03 0.02 −0.04 0.05 0.12 0.48 −0.08 0.14 −0.03 0.01 −0.02 0.09 −0.07 0.11 0.06 0.12 0.05 −0.09 −0.01 −0.12 0.02 0.19 −0.03 0.07 −0.20 0.03 −0.12 0.08 −0.02 0.03 0.10 −0.03 0.04 0.35 −0.11 0.11 −0.28 0.21 −0.21 −0.15 0.08 −0.06 −0.04 −0.05 −0.08 0.31 0.12 0.23 0.09 −0.13 −0.01 . −0.07 −0.04 −0.04 0.02 0.02 −0.08 −0.05 −0.01 −0.01 0.08 −0.07 −0.00 −0.06 0.02 0.04 −0.04 0.01 −0.12 0.09 −0.00 0.13 −0.00 −0.02 0.00 0.09 0.49 0.25 0.14 −0.17 0.15 −0.03 0.07 0.01 0.02 −0.02 0.03 −0.07 0.15 −0.08 0.21 −0.01 0.07 −0.03 0.32 −0.03 −0.11 −0.06 0.11 −0.04 0.07 −0.02 −0.10 0.06 −0.04 0.00 0.44 0.01 0.15 −0.09 0.22 −0.04 −0.02 −0.07 0.09 0.00 0.01 0.04 0.17 0.10 0.15 −0.12 0.10 −0.12 −0.25 −0.17 −0.08 . −0.17 0.04 0.27 −0.01 0.20 −0.15 . 0.14 0.15 0.29 −0.07 0.08 −0.06 0.11 −0.06 0.02 0.28 0.17 . 0.17 −0.03 0.02 −0.04 −0.06 0.02 −0.01 . −0.03 −0.06 −0.05 0.02 0.05 −0.10 14. 15. 0.12 . 0.09 0.45 0.14 −0.12 0.05 16. 0.48 0.10 0.08 0.30 0.09 0.11 −0.21 0.00 . −0.08 0.30 . 0.14 0.30 −0.24 0.30 17. . 18. 19. N = 5045 observations. Pairwise correlations in bold letters are significant at ≤ 0.05 level. N = 5045 observations. LnCEOcomp is the log of price-deflated total compensation of a Managing Director, which is the designation of a CEO as per the Indian law, for the current fiscal year; total compensation comprises of salary, allowances, performance bonuses, commissions, perquisites, and retirement benefits. MajorityHolding is the percentage of a firm’s common stock held by the controlling shareholders at the end of a fiscal year. InstitutionalHolding is the percentage of a firm’s common stock held by non-promoter financial institutions at the end of a fiscal year. Blockholders is the number of blockholders; a blockholder is defined as an outsider institution holding five percent or more of a firm’s equity at the end of a fiscal year. BGA is the indicator variable having the value of one if a firm is a business group affiliate; zero otherwise. PSU is the indicator variable having the value of one if a firm is a public sector undertaking; zero otherwise. BoardMeeting is the number of board meetings during a fiscal year. BoardSize is the number of directors in a firm’s board at the end of a fiscal year. IndDir is the proportion of independent directors on a firm’s board at the end of a fiscal year. BusyIndDir is the proportion of busy directors among the independent directors on a firm’s board at the end of the previous fiscal year; a busy director is defined as one who sits on the board of three or more firms. LnTenureCEO is the natural logarithm of the number of years since the date a CEO assumed office (or the middle of the first year in which the CEO’s name appears in the Prowess database if the appointment date is missing). CEOchair is the indicator variable having a value of one if a CEO is also the chairperson of the firm’s board of directors at the end of a fiscal year, zero otherwise. PromoterCEO is an indicator variable having the value of one if a CEO is the promoter or related to the promoter of the firm at the end of a fiscal year; zero otherwise. ROA is the return on assets (profit before interest and taxes divided by total assets). FirmSize is the natural logarithm of the price-deflated total revenue of a firm. MTB is the market-to-book value of asset ratio of a firm at the end of a fiscal year. Locations is the number of different locations where a firm has operations. StockRetSD is the standard deviation of the monthly stock returns during a fiscal year. It is used as a proxy for a firm’s total risk. FirmAge is the number of years between a firm’s incorporation date and the end of a fiscal year. All variables are also explained in detail in Panel A of Appendix A. ARTICLE IN PRESS 1. LnCEOcomp Ownership attributes: 2. MajorityHolding 3. InstitutionalHolding 4. Blockholders 5. BGA 6. PSU Board attributes: 7. BoardMeeting 8. BoardSize 9. IndDir 10. BusyIndDir CEO attributes: 11. LnTenureCEO 12. CEOchair 13. PromoterCEO Economic determinants: 14. ROA 15. FirmSize 16. MTB 17. Locations 18. StockRetSD 19. FirmAge 1. S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 Table 2 (continued) 9 ARTICLE IN PRESS 10 492 493 494 495 496 S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ geographically diversified, and older firms, but earn smaller compensation in riskier firms. CEOs who are more experienced, related to the promoter, or lead business group-affiliated firms earn higher total compensation, whereas CEOs of public sector enterprises earn lower compensation. Total CEO compensation is also higher in firms with a greater number of blockholders and a greater (fewer) percentage of equity owned by institutional (controlling) shareholders. It is higher in firms with fewer board meetings and a greater proportion of independent and busy independent directors on the board. 497 498 499 500 501 502 503 504 505 506 507 508 509 510 511 512 513 514 515 516 517 518 519 520 521 522 523 524 525 526 527 528 529 530 531 532 533 534 535 536 537 538 539 540 541 542 543 544 545 546 547 548 549 550 551 552 4.2. Results for total CEO compensation Table 3 presents the estimation results for Eq. (1). Columns (1) and (2) provide the results for the full sample, whereas the remaining two columns show the results for the subsample of the public sector and private sector firms, respectively. The result in the first column is obtained by excluding CEO fixed effects, whereas CEO fixed effects are included in the remaining columns. First, note that r-squared increases by 73% from 0.494 in column (1) to 0.853 in column (2). This shows that a large portion of total CEO compensation in Indian firms is associated with unobservable CEO attributes. Second, we observe that these two columns also differ in the significance of five ownership, board, and managerial attributes. While the coefficients on BGA, BoardMeeting, BusyIndDir, and CEOchair are significant in the first column, they lose their significance in the second. In contrast, the coefficient on Blockholders is insignificant in column (1) but significant in column (2). This demonstrates that leaving out CEO fixed effects can lead to an erroneous conclusion about the role of corporate governance attributes in CEO compensation in Indian firms. The evidence not only confirms the importance of including CEO fixed effects in longitudinal compensation studies but also extends Graham et al. (2012) by showing that the magnitude and significance of the coefficients on various ownership and board attributes also change when CEO fixed effects are included.11 Third, column (2) shows that total CEO compensation is associated with three ownership (number of blockholders, institutional shareholding, and public sector status), one managerial (tenure), and none of the board variables, once we control for the time-invariant CEO attributes by including CEO fixed effects and account for the cross-correlation of residuals by clustering standard errors at the firm level. This shows that not board but ownership structures have a role in CEO compensation in India. This is contrary to the evidence documented in prior compensation studies, such as Chakrabarti et al. (2012), Jaiswall and Firth (2009), and Tomar and Korla (2011), who find that CEO compensation in Indian firms is associated not only with one or more board attributes but also with one or more ownership characteristics, as Appendix B shows.12 In Table 3 column (2), the coefficient on Blockholders is negative and significant (−0.057, t-statistic −2.72), which suggests that having one more blockholder constrains CEO compensation by 5.5%. To the best of our knowledge, our study is the first to document the role of blockholders in monitoring and constraining CEO compensation in the Indian context. We also observe that total CEO compensation decreases with PSU (coefficient −2.105, t–statistic −3.57) and increases with both InstitutionalHolding (coefficient 0.008, t-statistic 3.16) and CEO_Tenure (coefficient 0.212, t-statistic 3.99). Thus, total compensation is 88% lower for public sector CEOs. It increases by only 0.8% and 0.2%, respectively, for a 1% increase in institutional holding and CEO tenure. Appendix B shows that Jaiswall and Firth (2009) and Parthasarathy et al. (2006) also document a lower CEO compensation in the public sector, whereas Tomar and Korla (2011) do not find a significant difference. Similarly, the association between institutional holding and CEO compensation is positive in Chakrabarti et al. (2012) and Parthasarathy et al. (2006), though the association is not significant in the latter. As Appendix B shows, the significantly positive coefficient on CEO tenure is consistent with Ghosh (2006). Table 3 column (2) also shows that the coefficients on the remaining two ownership (MajorityHolding and BGA), two managerial (CEOchair and PromoterCEO), and all board attributes (BoardMeeting, Board Size, IndDir, and BusyIndDir) are insignificant at ≤ 0.05 level, which suggests that CEOs do not collude with their firm’s board of directors or promoters to draw higher compensation. As we can see in Appendix B, Jaiswall and Firth (2009) also do not find an association between CEO compensation and majority shareholding, whereas Chakrabarti et al. (2012) document a positive association. Further, Ghosh (2006) also finds that CEO compensation is not different in business group-affiliated firms; on the contrary, Chakrabarti et al. (2012), Jaiswall and Firth (2009), and Ghosh (2010) report that CEO compensation is higher in business group-affiliated firms than in unaffiliated firms. Our evidence of insignificant coefficient on board size is consistent with A. Ghosh (2006) and Tomar and Korla (2011) but differs from Chakrabarti et al. (2012), who document a positive and significant association between CEO compensation and the number of directors on a firm’s board. For the association between CEO compensation and the proportion of independent directors on the board, very different results are reported in three prior studies: Tomar and Korla (2011) report a negative association; Ghosh (2006) documents a positive association, whereas Parthasarathy et al. (2006) find no association between the two, which is in accordance with our findings as well. Both Ghosh (2006) and Parthasarathy et al. (2006) document that CEOs who are promoters earn higher pay than those who are not. In contrast, we find that the 11 Graham et al. (2012) show the change in the magnitude and significance of coefficients related to the observed managerial characteristics and economic determinants of compensation; they did not have ownership and board attributes in their model. 12 Appendix B shows how the results for ownership, board, and managerial attributes in our study compare with those in the prior compensation studies in the Indian setting. We thank the discussant for this suggestion. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 553 554 Table 3 Regression results. 555 556 Sample 557 558 559 560 561 562 563 564 565 566 567 568 569 570 571 572 573 574 575 576 577 578 579 580 581 582 583 584 585 586 587 588 589 590 591 592 593 594 595 596 597 598 599 600 601 Ownership attributes: MajorityHolding 602 603 604 605 606 607 608 609 610 611 612 613 614 615 616 617 618 619 620 621 622 623 624 625 626 11 InstitutionalHolding Blockholders BGA PSU Board attributes: BoardMeeting BoardSize IndDir BusyIndDir CEO attributes: LnTenureCEO CEOchair PromoterCEO Economic determinants: ROA FirmSize MTB Locations StockRetSD FirmAge Constant Fixed effects included Observations R-squared (1) (2) (3) (4) Full sample Full sample Public sector subsample Private sector subsample 0.001 [0.58] 0.013*** [5.01] −0.032 [−1.26] 0.182*** [2.71] −2.213*** [−14.77] −0.002 [−0.54] 0.008*** [3.16] −0.057*** [−2.72] 0.491 [1.38] −2.105*** [−3.57] 0.003 [0.30] −0.000 [−0.00] 0.012 [0.11] −0.002 [−0.68] 0.008*** [3.02] −0.059*** [−2.82] −0.411 [−0.63] −0.044*** [−3.72] 0.009 [0.83] 0.122 [0.76] 0.298*** [3.43] 0.001 [0.08] −0.017 [−1.70] 0.253 [1.90] −0.005 [−0.07] −0.020 [−1.19] −0.003 [−0.14] 0.877** [2.33] 0.150 [0.63] 0.001 [0.08] −0.017 [−1.54] 0.184 [1.36] −0.027 [−0.36] 0.137*** [4.30] 0.290** [4.49] 0.027 [0.43] 0.212*** [3.99] −0.076 [−0.84] 0.029 [0.43] 0.714*** [5.88] 0.036 [0.08] 0.162*** [2.83] −0.064 [−0.71] 0.037 [0.56] 2.278*** [6.61] 0.247*** [8.62] 0.052 [1.89] 0.01 [1.11] −7.211*** [−4.74] −0.001 [−0.46] 5.246*** [17.02] Year and industry 5045 0.494 2.004*** [6.87] 0.314*** [4.79] 0.043** [2.27] 0.089 [1.92] −2.555** [−2.09] 0.020 [1.69] 4.808*** [9.53] CEO, year, and industry 5045 0.853 0.323 [0.28] 0.500** [2.13] 0.035 [0.39] −0.346 [−0.70] −8.117** [−2.25] 0.088 [0.67] 0.373 [0.08] CEO, year, and industry 376 0.909 2.046*** [6.99] 0.331*** [4.87] 0.037 [1.93] 0.224*** [3.23] −2.251 [−1.81] 0.038** [2.31] 3.440*** [5.62] CEO, year, and industry 4669 0.826 *** p ≤ 0.01 and ** p ≤ 0.05 using a two-tailed t-test; t-statistics are in brackets and have been computed using heteroskedasticity-adjusted standard errors clustered by firm. LnCEOcomp is the log of price-deflated total compensation of a Managing Director, which is the designation of a CEO as per the Indian law, for the current fiscal year; total compensation comprises of salary, allowances, performance bonuses, commissions, perquisites, and retirement benefits. MajorityHolding is the percentage of a firm’s common stock held by the controlling shareholders at the end of a fiscal year. InstitutionalHolding is the percentage of a firm’s common stock held by non-promoter financial institutions at the end of a fiscal year. Blockholders is the number of blockholders; a blockholder is defined as an outsider institution holding five percent or more of a firm’s equity at the end of a fiscal year. BGA is the indicator variable having the value of one if a firm is a business group affiliate; zero otherwise. PSU is the indicator variable having the value of one if a firm is a public sector undertaking; zero otherwise. BoardMeeting is the number of board meetings during a fiscal year. BoardSize is the number of directors on a firm’s board at the end of a fiscal year. IndDir is the proportion of independent directors on a firm’s board at the end of a fiscal year. BusyIndDir is the proportion of busy directors among independent directors in a firm’s board at the end of a previous fiscal year; a busy director is defined as one who sits on the board of three or more firms. LnTenureCEO is the natural logarithm of the number of years since the date a CEO assumed office (or the middle of the first year in which the CEO’s name appears in the Prowess database if the appointment date is missing). CEOchair is the indicator variable having the value of one if a CEO is also the chairperson of the firm’s board of directors at the end of a fiscal year, zero otherwise. PromoterCEO is the indicator variable having the value of one if a CEO is the promoter or related to the promoter of the firm at the end of a fiscal year; zero otherwise. ROA is the return on assets (profit before interest and taxes divided by total assets). FirmSize is the natural logarithm of the price-deflated total revenue of a firm. MTB is the market-to-book value of assets ratio of a firm at the end of a fiscal year. Locations is the number of different locations where a firm has operations. StockRetSD is the standard deviation of the monthly stock returns during a fiscal year. It is used as a proxy for a firm’s total risk. FirmAge is the number of years between a firm’s incorporation date and the end of a fiscal year. All variables are explained in Panel A of Appendix A. This table presents the results of estimating Eq. (1): LnCEOcompi ,t = α1 MajorityHoldingi,t −1 + α 2 InstitutionalHoldingi,t −1 + α 3 Blockholdersi,t −1 + α 4 BGA i,t −1 + α 5 PSUi,t −1 + β1 BoardMeetingi,t −1 + β2 BoardSizei,t −1 + β3 IndDiri,t −1 + β 4 BusyIndDiri,t −1 + γ 1 LnTenureCEOi,t −1 + γ 2 CEOchairi,t −1 + γ 3 PromoterCEOi,t −1 + θ1 ROA i,t + θ2 FirmSizei,t −1 + θ3 MTBi,t −1 + θ 4 StockRetSDi,t −1 + θ5 Locationsi,t −1 + θ6 FirmAgei,t −1 + Constant + Year, Industry, and CEO fixed effects (1) In all columns, the dependent variable is LnCEOcomp. Columns (1) and (2) present the result for the full sample. Columns (3) and (4) present the result for the subsamples of the state-owned firms and the private sector firms, respectively; in these two columns, PSU has been dropped from the list of explanatory variables, since sample has been partitioned based on this indicator variable. In Column (4), BGA and PromoterCEO are excluded since public sector firms are not business group-affiliated and these firms do not have a promoter CEO. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS 12 627 628 629 630 631 632 633 634 635 636 637 638 639 640 641 642 643 644 645 646 647 648 649 650 651 652 653 654 655 656 657 658 659 660 661 662 663 664 665 666 667 668 669 670 671 672 673 674 675 676 677 678 679 680 681 682 683 684 685 686 687 S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ total pay is not different for the two groups of CEOs. Our result that compensation is not higher for CEOs who are also the board chair is similar to the evidence provided by Parthasarathy et al. (2006), but unlike the evidence in Ghosh (2006) and Tomar and Korla (2011), who report higher compensation for these CEOs. Table 3 column (2) also provides evidence for several economic determinants of CEO compensation. CEO compensation exhibits a positive association with firm profitability, size, and growth opportunities, and a negative association with total risk, consistent with prior studies. However, it is not associated with a firm’s age and geographical complexity in our sample firms. The coefficient on ROA is 2.004 and its t-statistic at 6.87 is the highest among all explanatory variables in column (2). When ROA is one hundred basis points higher, total CEO pay increases by 2%, which is over four times that reported in Ghosh (2006) and Jaiswall and Firth (2009). Further, the coefficient on FirmSize (0.314, t–statistic 4.79) is close to 0.30 that Baker et al. (1988, 609) consider “the best documented empirical regularity regarding the levels of executive [CEO] compensation.” Next, we discuss the result of our sensitivity tests.13 First, the results are robust to computing StockRetSD with monthly stock return data over a five-year period similar to Core et al. (1999). Second, the results are not sensitive to using the logarithm of total assets as the proxy for firm size. Third, the results are also robust to controlling for the moderating role of performance volatility on CEO pay-for-performance sensitivity, which was documented in Ghosh (2010). Fourth, the results are not sensitive to using return on equity or stock return as the measure of a firm’s performance; the coefficient on return on equity is significantly positive, but the coefficient on stock returns is insignificant. Next, we turn our attention to the association of CEO compensation with board and ownership attributes in the subsamples of the public sector and the private sector firms.14 Columns (3) and (4) of Table 3 provide some interesting results. In both sectors, CEO compensation increases with CEO tenure and firm size. Column (3) shows that CEO compensation in public sector firms also increases with the proportion of independent directors on a board, and decreases with a firm’s total risk. The coefficient of firm performance is positive but insignificant, which indicates a missing link between pay and performance in the public sector firms in our sample. During 2002–2013, public sector CEOs did not have an incentive to achieve higher firm profitability but had a strong disincentive to take higher risk, possibly due to their firm’s social mandate imposed by the government. In contrast, column (4) shows a strong pay-for-performance link in the private sector firms; the payfor-performance sensitivity is similar to that for the whole sample in column (2). Unlike the public sector firms, the private sector firms have CEO compensation increasing with the firm’s age, its geographical diversity, and its institutional shareholding, but decreasing with the number of blockholders. Overall, columns (3) and (4) suggest that the determinants of CEO compensation in public and private sector firms are quite different. The evidence underscores the need to keep the subsamples of public and private sector firms separate in order to gain a better understanding of the drivers of CEO compensation in Indian firms. The insight about pay-forperformance and pay-for-risk sensitivities in the public sector is both timely and relevant given the effort made by the Indian government to make public sector CEOs more accountable and firms performance-oriented. While these efforts need to continue, they should be directed at abating the disincentive to take more risk and at strengthening the reward to achieve higher profitability. 4.3. Results of the test of rent extraction or efficient contracting We now examine whether CEO compensation reflects rent extraction or efficient contracting based on the results for Eq. (2) in Table 4. Panel A provides the results for the full sample, whereas panel B and C present the results for the public sector and the private sector subsamples, respectively. Relative to firms with stronger governance, firms with weaker governance have greater rent extraction, higher agency costs, and poorer future performance. CEO compensation related to board, ownership, and managerial attributes has a negative association with future firm performance when higher CEO compensation reflects rent extraction. Therefore, a negative and significant coefficient on Comp_Ownership, Comp_Board, or Comp_CEO would indicate rent extraction whereas an insignificant coefficient would suggest that we do not find evidence consistent with rent extraction. Panel A shows that Comp_Ownership, Comp_Board, and Comp_CEO have an insignificant coefficient in all three columns. CEO compensation related to each of the three attributes – ownership, board, and managerial – does not exhibit a relation with future firm performance in India, and we cannot reject H2a0, H2b0, and H2c0. Thus, we find no evidence to suggest that CEOs extract rent through higher compensation in India, unlike in the USA (Core et al., 1999). The results are similar for the subsample of public sector firms. Panel B shows that the coefficients on Comp_Ownership, Comp_Board, and Comp_CEO are insignificant in all three years, except that the coefficient on Comp_CEO is positive and significant in column 2. This suggests that after compensation is earned, average firm performance over subsequent two years increases with the proportion of compensation attributed to the tenure and board chair status of public sector CEOs. A negative coefficient on these variables would have indicated that CEOs extract rent through higher compensation. Therefore, we find no evidence that public sector CEOs extract rent through higher compensation. Panel C shows that Comp_Board and Comp_CEO have non-significant coefficients in the subsample of private sector firms. A negative coefficient would have indicated rent extraction. Therefore, we find no evidence to suggest rent extraction by 13 14 We have not tabulated these tests because the results for ownership, board, and managerial characteristics are similar to those in Table 3 column (2). We thank the anonymous reviewer for this suggestion. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 688 689 Table 4 Subsequent operating performance and predicted excess compensation. 690 691 Dependent variable: 692 693 694 695 696 697 698 699 700 701 702 703 704 705 706 707 708 709 710 711 712 713 714 715 716 717 718 719 720 721 722 723 724 725 726 727 728 729 730 731 732 733 734 735 736 737 738 739 740 741 742 Panel A: Full sample Comp_Board t 743 744 745 746 747 748 749 750 751 752 753 754 755 756 13 Comp_Ownership t Comp_CEO t ROA t FirmSize t ROA_SD5years t Constant Observations R-squared Panel B: Public sector firms Comp_Board t Comp_Ownership t Comp_CEO t ROA t FirmSize t ROA_SD5years t Constant Observations R-squared Panel C: Private sector firms: Comp_Board t Comp_Ownership t Comp_CEO t ROA t FirmSize t ROA_SD5years t Constant Observations R-squared (1) (2) (3) AvgFuture1ROA AvgFuture2ROA AvgFuture3ROA −0.053 [−0.02] −2.378 [−1.33] 1.095 [0.42] 0.693*** [36.78] 0.002** [2.52] −0.095** [−2.39] 0.024** [2.36] 4,531 0.556 −0.965 [−0.22] −2.461 [−1.34] 1.961 [0.55] 0.619*** [30.25] 0.002 [1.38] −0.076 [−1.76] 0.045*** [4.12] 4,062 0.534 1.772 [0.38] −2.990 [−1.50] −0.659 [−0.19] 0.553*** [22.51] 0.001 [0.07] −0.118** [−2.15] 0.065*** [4.77] 3,446 0.493 −4.084 [−0.85] 3.450 [0.75] 0.536 [1.12] 0.631*** [9.00] 0.002 [0.79] −0.226 [−1.26] 0.042 [1.33] 338 0.782 −4.637 [−1.25] 2.431 [0.65] 1.226*** [3.00] 0.533*** [6.71] 0.001 [0.38] −0.386** [−2.04] 0.082*** [2.67] 307 0.792 −2.570 [−0.74] 0.215 [0.06] 0.884 [1.44] 0.412*** [4.51] 0.001 [0.27] −0.455** [−2.21] 0.126*** [3.40] 261 0.788 −11.251 [−1.35] 11.270** [2.43] 0.179 [0.05] 0.689*** [35.36] 0.002** [2.21] −0.102** [−2.51] 0.021 [1.86] 4193 0.548 −11.678 [−1.05] 15.329** [2.24] −1.496 [−0.28] 0.615*** [29.45] 0.002 [1.32] −0.081** [−1.82] 0.038*** [3.06] 3755 0.526 −4.296 [−0.40] 10.930** [1.99] −5.373 [−0.91] 0.551*** [22.24] 0.001 [0.63] −0.124** [−2.20] 0.057*** [3.72] 3185 0.485 *** p ≤ 0.01 and ** p ≤ 0.05 using a two-tailed t-test; t-statistics are in brackets and computed using heteroskedasticity-adjusted standard errors clustered by firm. Year and industry fixed effects are included in all three columns of the three panels, but not reported. AvgFuture1ROA is the ROA one year subsequent to the fiscal year in which the CEO compensation was earned. AvgFuture2ROA is the average of ROA one year and two years subsequent to the fiscal year in which the CEO compensation was earned. AvgFuture3ROA is the average of ROA one, two, and three years subsequent to the fiscal year in which the CEO compensation was earned. FirmSize is the natural logarithm of the price-deflated total revenue of a firm during the previous fiscal year. ROA is the return on assets (profit before interest and taxes divided by total assets). ROA_SD5years is the standard deviation of ROA over five years prior to the fiscal year in which the CEO compensation was earned. Comp_Board is the CEO compensation attributed to the board characteristics scaled by the total CEO compensation. Comp_Ownership is the CEO compensation attributed to the ownership characteristics scaled by the total CEO compensation. Comp_CEO is the CEO compensation attributed to the observed CEO characteristics scaled by the total CEO compensation. All variables are explained in panel B of Appendix A. This table presents the results of estimating Eq. (2): AvgFutureROA i,t = φ1 Comp_Boardi,t + φ2 Comp_Ownershipi,t + φ3 Comp_CEOi,t + ψ 1 ROA i,t + ψ 2 Sizei,t + ψ 3 ROA_SD5yearsi,t + Constant + Year and Industry fixed effects + εi,t (2) Panel A provides the results for the full sample, whereas panels B and C show the result for the subsamples of public sector and private sector firms, respectively. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 14 757 758 759 760 761 762 763 764 765 766 767 private sector CEOs. Comp_Ownership has a significant and positive coefficient in all the three years. Under efficient contracting, compensation reflects demand for talent. Talented CEOs not only earn higher equilibrium compensation due to a greater demand for their talent, but they also work harder and use their abilities to benefit their firm and improve its performance. They earn more and contribute to better firm performance, consistent with efficient contracting (Core et al., 1999). Therefore, the positive association between CEO compensation attributed to ownership characteristics and future firm performance suggests that ownership structures have a role in efficient contracting of CEO compensation in the private sector. Overall, we find no evidence consistent with rent extraction or inefficient compensation contracting in Indian firms. CEO compensation does not indicate a failure of corporate governance in Indian firms during 2002–2013. Corporate governance seems to work in compensation contracting and curbs managerial rent-seeking in Indian firms. Therefore, the attention should shift to providing enhanced disclosure of CEO compensation contracting and performance evaluation to allow greater scrutiny and monitoring by external stakeholders. 768 769 770 771 772 773 774 775 776 777 778 779 780 781 782 783 784 785 786 787 788 789 790 791 792 793 794 5. Conclusion Our study examines the association between CEO compensation and board, ownership, and CEO characteristics in Indian firms and investigates whether higher CEO compensation reflects rent extraction or efficient contracting. We use a sample of 5045 observations over 2002–2013 and control for unobserved CEO talent by including CEO fixed effects in our empirical specification. The sample is much larger, over a longer period, and more representative of Indian firms than the sample used in prior CEO compensation studies in the Indian setting. Our empirical specification explains 85% of the variation in total CEO compensation, about twice of that explained in prior compensation studies based on Indian firms. Our study provides interesting insights for researchers, board members, and policymakers. First, CEO compensation is associated with ownership, and not board structure in Indian firms, contrary to the evidence in prior studies. The results also show that the total compensation is not higher for CEOs who are also a board chair or a promoter, or in firms with fewer board meetings, larger boards, fewer independent directors, or a greater proportion of busy directors. Therefore, these CEOs do not earn a higher compensation. Second, the results endorse the need to include CEO fixed effects in longitudinal compensation studies following Graham et al. (2012). Our study also extends Graham et al. (2012), whose empirical model did not have ownership and board attributes, by showing that leaving out CEO fixed effects can lead to an erroneous conclusion about the role of governance attributes in CEO compensation contracting. Third, the determinants of CEO compensation differ in the public and the private sectors. Therefore, researchers should keep the subsamples of public and private sector firms separate in order to gain a better understanding of CEO compensation in Indian firms. Further, in the public sector, CEO compensation has an insignificant sensitivity to firm performance, a negative sensitivity to firm risk, and a positive sensitivity to the proportion of independent directors on the board, CEO tenure, and firm size. In the private sector, blockholders play an active role in monitoring and constraining CEO compensation; CEO pay also has a positive association with institutional shareholding, CEO tenure, firm profitability, size, growth opportunities, and age. To the best of our knowledge, this is the first study to document the differences, particularly the role of blockholders in CEO compensation in India. Finally, we do not find any evidence to suggest that CEOs extract rent through higher compensation in Indian firms. Our evidence also indicates that ownership structures have a role in efficient compensation contracting in the private sector. Overall, we find that ownership structures and not board attributes have a role in CEO compensation contracting in Indian firms. 795 796 797 798 799 800 Q6 Acknowledgments We are grateful to the editor Ferdinand A. Gul, the discussant KK Raman, anonymous reviewers, and the participants of the plenary session of the Annual JCAE Symposium 2015 and to Manju Jaiswall for their constructive comments and valuable suggestions. All remaining errors are our own. 801 802 Appendix A: description of variables 803 Panel A: Variables in Eq. (1) 804 Variables 805 806 807 808 809 810 811 812 813 814 815 816 LnCEOcomp Variables Majority Holding Institutional Holding Description Dependent variables for Eq. (1) Log of price-deflated total compensation of a Managing Director, which is the designation of a CEO as per the Indian law, for the current fiscal year (Ghosh, 2006; Jaiswall and Firth, 2009; Parthasarathy et al., 2006). Total compensation comprises of salary, allowances, performance bonuses, commissions, perquisites, and retirement benefits. Total compensation is inflation-adjusted to mitigate heteroskedasticity (Albuquerque, 2009) by dividing it by the sum of one and cumulative consumer price inflation since March 2001. Of primary interest for Eq. (1): ownership characteristics The percentage of a firm’s common stock held by the controlling shareholders at the end of a fiscal year (Jaiswall and Firth, 2009). The percentage of a firm’s common stock held by non-promoter financial institutions at the end of a fiscal year (Parthasarathy et al., 2006). (continued on next page) Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ 817 15 Appendix A (continued) 818 Panel A: Variables in Eq. (1) 819 Variables Description 820 821 822 823 824 825 826 827 828 829 830 831 832 833 834 835 836 837 838 839 840 841 842 843 844 845 846 847 848 Blockholders The number of blockholders. A blockholder is defined as an outsider institution holding five percent or more of a firm’s equity at the end of a fiscal year, following Core et al. (1999). An indicator variable having the value of one if a firm is a business group affiliate; zero otherwise (Jaiswall and Firth, 2009). An indicator variable having the value of one if a firm is a public sector undertaking; zero otherwise (Jaiswall and Firth, 2009). Of primary interest for Eq. (1): board characteristics The number of board meetings during a fiscal year (Core et al., 1999). The number of directors in a firm’s board at the end of a fiscal year (Core et al., 1999; Ghosh, 2006). The proportion of independent directors on a firm’s board at the end of a fiscal year (Core et al., 1999; Ghosh, 2006; Parthasarathy et al., 2006). The proportion of busy directors among independent directors on a firm’s board at the end of a previous fiscal year. A busy director is defined as one who sits on the board of three or more firms (Core et al., 1999). Observed CEO characteristics for Eq. (1) The natural logarithm of the number of years since the date a CEO assumed office (or the middle of the first year in which the CEO’s name appears in the Prowess if the appointment date is missing). An indicator variable having the value of one if a CEO is also the chairperson of the firm’s board of directors at the end of a fiscal year, zero otherwise (Core et al., 1999; Parthasarathy et al., 2006). An indicator variable having the value of one if a CEO is the promoter or related to the promoter of the firm at the end of a fiscal year; zero otherwise (Parthasarathy et al., 2006). Economic determinants of CEO compensation for Eq. (1) The return on assets (profit before interest and taxes divided by total assets) (Core et al., 1999; Jaiswall and Firth, 2009). The natural logarithm of the price-deflated total revenue of a firm (Core et al., 1999; Ghosh, 2006). It is used as a proxy for a firm’s size. The market-to-book ratio of a firm at the end of a fiscal year (Core et al., 1999), calculated as the sum of the book value of liabilities and the market value of the equity, divided by the book value of the total assets. It is used as a proxy for a firm’s growth opportunities. The number of different locations where a firm has operations (Ghosh, 2006). It is a proxy for a firm’s geographical complexity. The standard deviation of the monthly stock returns during a fiscal year. It is used as a proxy for a firm’s total risk (Core et al., 1999). The number of years between a firm’s incorporation date and the end of a fiscal year (Ghosh, 2006). BGA PSU Variables Board Meeting BoardSize IndDir BusyIndDir LnTenure CEO CEOchair Promoter CEO ROA FirmSize MTB Locations StockRetSD FirmAge 849 Panel B: Variables in Eq. (2) 850 Variables 851 852 853 854 855 856 857 858 859 860 861 862 863 864 865 866 867 868 869 870 871 872 873 874 875 876 877 878 879 880 881 882 883 884 885 886 AvgFuture1ROA AvgFuture2ROA AvgFuture3ROA ROA FirmSize ROA_ SD5years Comp_ Board Comp_ Ownership Comp_ CEO Description Dependent variables for Eq. (2) ROA one year subsequent to the fiscal year in which the CEO compensation was earned (Core et al., 1999). The average of ROA one year and two years subsequent to the fiscal year in which the CEO compensation was earned (Core et al., 1999). The average of ROA one, two, and three years subsequent to the fiscal year in which the CEO compensation was earned (Core et al., 1999). Control variables for Eq. (2) Same as defined in Panel A. The return on assets (profit before interest and taxes divided by total assets) (Core et al., 1999; Jaiswall and Firth, 2009). Same as defined in Panel A. The natural logarithm of the price-deflated total revenue of a firm during the previous fiscal year (Core et al., 1999; Ghosh, 2006). It is used as a proxy for a firm’s size. The standard deviation of ROA over five years prior to the fiscal year in which the CEO compensation was earned (Core et al., 1999). It is used as a proxy for earning volatility, following Core et al. (1999). Variables of primary interest for Eq. (2)* CEO compensation attributed to the four board characteristics in Eq. (1), scaled by total CEO compensation. The coefficients for the four board attributes, BoardMeeting, BoardSize, IndDir, and BusyIndDir, are taken from Table 3: Column (2) for the full sample, column (3) for the public sector subsample, and column (4) for the private sector subsample. Comp_Boardi,t = exp(β1 BoardMeetingi,t-1 + β2 BoardSizei,t-1 + β3 IndDiri,t-1 + β4 BusyIndDiri,t-1) ÷ exp(LnCEOcompi,t). CEO compensation attributed to the ownership characteristics in Eq. (1), scaled by total CEO compensation. The coefficients for the ownership attributes are taken from Table 3: Column (2) for the full sample, column (3) for the public sector subsample, and column (4) for the private sector subsample. For the full sample: Comp_Ownership i,t = exp(α1 MajorityHoldingi,t-1 + α2 InstitutionalHoldingi,t-1 + α3 Blockholdersi,t-1 + α4 BGAi,t-1 + α5 PSUi,t-1) ÷ exp(LnCEOcompi,t) For the private sector: Comp_Ownership i,t = exp(α1 MajorityHolding i,t-1 + α2 Institutional Holding%i,t-1 + α3 Blockholdersi,t-1 + α4 BGAi,t-1) ÷ exp(LnCEOcompi,t) For the public sector: Comp_Ownership i,t = exp(α1 MajorityHolding i,t-1 + α2 InstitutionalHoldingi,t-1 + α3 Blockholdersi,t-1) ÷ exp(LnCEOcompi,t). CEO compensation attributed to the observed managerial characteristics in Eq. (1), scaled by total CEO compensation. The coefficients for the CEO attributes are taken from Table 3: Column (2) for the full sample, column (3) for the public sector, and column (4) for the private sector subsample. For the full sample: Comp_CEO i,t = exp(γ1 LnTenureCEOi,t-1 + γ2 CEOchairi,t-1 + γ3 PromoterCEOi,t-1) ÷ exp(LnCEOcompi,t) For the private sector: Comp_CEO i,t = exp(γ1 LnTenureCEOi,t-1 + γ2 CEOchairi,t-1 + γ3 PromoterCEOi,t-1) ÷ exp(LnCEOcompi,t) For the public sector: Comp_CEO i,t = exp(γ1 LnTenureCEOi,t-1 + γ2 CEOchairi,t-1) ÷ exp(LnCEOcompi,t). * Core et al. (1999, pp. 390–391) construct a composite measure of compensation related to governance attributes to examine rent extraction versus efficient contracting. We decompose this measure into three components (Comp_ Board, Comp_Ownership, and Comp_CEO) to ascertain which of these three sets of attributes (board, ownership, and managerial, respectively) are related to rent extraction or efficient contracting. Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001 ARTICLE IN PRESS 16 887 888 S.S.K. Jaiswall et al. / Journal of Contemporary Accounting & Economics ■■ (2016) ■■–■■ Appendix B: comparison of the results related to the association of total CEO compensation with ownership, board, and CEO attributes in Indian firms 889 890 891 892 893 894 895 896 897 898 899 900 901 902 903 904 905 906 907 908 909 910 911 912 913 914 915 916 917 918 Ownership attributes: Shareholding of the majority shareholder / promoter Non-promoter institutional shareholding Number of blockholders Business group-affiliated firm (dummy) Public sector or state-owned enterprises (dummy) Foreign multinational firm (dummy) Professionally-run independent companies (dummy) Board attributes: Number of board meetings Board size Proportion of independent directors Proportion of busy independent directors Board has a remuneration committee (dummy) Firm’s banker is on the board (dummy) CEO attributes: CEO Tenure CEO is also the board chair (dummy) CEO belongs to the promoter group (dummy) Has the study included CEO fixed effects? Has the study clustered standard errors by the firm? Our study Chakrabarti et al. (2012) NS + – NS – + + NS NS NS NS Tomar and Korla (2011) Jaiswall and Firth (2009) Ghosh (2006) Parthasarathy et al. (2006) NS NS + + – NS +† Ghosh (2010) + + + NS +* NS – NS – NS NS + NS + + + No No NS + No‡ No‡ + NS + NS NS Yes Yes + No Yes No No No‡ No‡ No Yes * Positive and significant when the measure of firm performance is ROA, but not significant when the measure of firm performance is either Tobin’s Q or annual stock return. † Positive and significant when the proxy for a firm’s size is its revenue, but not significant when the proxy is either the book value of its total assets or the market value of its equity. ‡ Since the study uses cross-sectional data, it does not need CEO fixed effects (Graham et al., 2012) and standard error clustered by firm (Petersen, 2009). 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Please cite this article in press as: Sudhir Shiv Kumar Jaiswall, Asish Kumar Bhattacharyya, Corporate governance and CEO compensation in Indian firms, Journal of Contemporary Accounting & Economics (2016), doi: 10.1016/j.jcae.2016.06.001