Equity-Based Compensation for Executives and Firm Performance: Evidence from Australia

Abstract

This study examines the impact of Equity-Based Compensation (EBC) for executives and Key Management Personnel (KMP) on firm performance, and how 2009 tax legislation for EBC impacts on the use of EBC and the performance. EBC aims to align the incentives of shareholders and KMP in order to improve productivity. I construct a dataset of top 200 companies on the Australian Securities Exchange (ASX) during 2002-2013 and estimate the effects of EBC in several regression models. I measure performance in two ways: a market-based measure (Tobin’s q) and an accounting-based measure (Return on Assets ROA). I find that the current measure of EBC for executives and KMP is positively related to both Tobin’s q and ROA. One-year lagged EBC impacts on Tobin’s q but ambiguously on ROA. Also, the 2009 tax reform increases the use of EBC and improves firm performance. Besides the OLS estimates, I construct IV estimates to control for potential endogeneity of explanatory variables, capital, labour and EBC. The results of IV estimates are consistent with those of OLS estimates. Overall, the main findings of this study show that the EBC for executives and KMP can be an effective business strategy because it is likely to lead to better firm performance. This thesis integrates and expands earlier studies of EBC, narrow-based EBC and firm performance. Investigation of the relation between the use of EBC and firm performance will contribute to practice and assist the Australian government and employers improve employee share ownership schemes.