Awarding stocks to CEOs can increase workplace misconduct
An annual average of 4% of global GDP is lost due to workplace misconduct. Image: Pexels
Workplace misconduct is more likely to occur when a firm’s CEO has been awarded stock options.
In a new study published in The Accounting Review, academic experts explored how the compensation structure of CEOs influences workplace misconduct.
They found that financially incentivising CEOs to take risks was associated with an increase in workplace misconduct, including higher incidence of health and safety violations, non-compliance with labour laws, and other violations related to labour exploitation and misconduct.
They highlight the significant economic cost this imposes on employers, employees and society as a whole. According to the International Labor Organization (ILO) an average of $2.8 trillion a year (4% of global GDP) is lost due to the direct and indirect costs of workplace misconduct such as medical expenses, worker compensation and legal costs.
The researchers used data on workplace misconduct and the ensuing penalties issued by more than 40 US federal regulatory agencies as well as the US Justice Department using the Violation Tracker tool. They then merged their dataset with data on executive compensation and firm characteristics, creating a sample of 2,000 firms from 2000 to 2018.
They found that an increase in ‘CEO vega’, a finance metric that measures how much a CEO’s wealth changes with the volatility of the company’s stock price, led to an increase in the number and severity of workplace violations. When CEO vega increased by one standard deviation, this led to a a 6.7 percent increase in the number of workplace violations and a 5.5 percent increase in the value of penalties.
They found that the introduction of Statement of Financial Accounting Standard (SFAS) 123R in 2005, a regulation mandating the expensing of share-based payments in Income Statements and which led to a significant drop in the use of stock options in an executive’s compensation package, was consistent with a reduction in the number and severity of workplace violations.
Dr Monika Tarsalewska, a Senior Lecturer and Deputy Director of Exeter Sustainable Finance Centre at the University of Exeter Business School, said: “Stock options incentives can influence investment and financial decision-making, encouraging CEOs to pursue riskier projects and riskier financing strategies. However, they can also drive managers to engage in other risky practices, such as accounting manipulation and fraud.
“Managers who are under pressure to perform often adopt practices intended to boost firm profitability but these can come at a cost of workforce safety and wellbeing.“
The paper CEO Risk Taking Equity Incentives and Workplace Misconduct, is co-authored by Justin Chircop (Lancaster University) and Agnieszka Trzeciakiewicz (University of York) and published in The Accounting Review.
