The composition of boards of directors and incidence of golden parachutes
Embargo Lift Date
Golden parachutes are a new and controversial management perquisite that allow covered managers to voluntarily resign and collect substantial remuneration—in some cases several million dollars—after a triggering event, usually a hostile takeover. This ability to unilaterally pull a ripcord has provoked much criticism of this perquisite. Critics of golden parachutes see them as evidence that senior managers can he more interested in maximizing their own incomes than in shareholder returns. Business Week, for example, in an editorial entitled “The Gilded Ripoff,” stated that the ethical difference hetween golden parachutes and theft is “hard to discern” (1982:136). On the other hand, proponents of golden parachutes justify them as a means of attracting and keeping new managerial talent as well ensuring that current management remains objective, loyal, and on board during a hostile takeover attempt. What characteristics are firms that give managers contracts with golden parachutes likely to have' One possible factor is the composition of a firm's board of directors, since it is the board that must ultimately approve such arrangements. Perhaps directors who are insiders are likely to be less independent of the CEO and senior management than are directors who are outsiders. Bacon and Brown reported general agreement among board members of major U.S. corporations that “the board should have a majority of outside directors.…[to] properly carry out its responsibilities and maintain its necessary independence of management” (1977:91). This suggests that if managers want golden parachutes they are more likely to get them in firms that have a high percentage of directors who are insiders. Thus we expect: Hypothesis 1: The probability that firms will give their management golden parachute contracts is positively related to the percentage of directors who are insiders. Another factor likely to be related to whether or not firms provide golden parachutes is the amount of stock that members of boards of directors own. Directors who own substantial amounts of stock should be more inclined to put the interests of stockholders above those of management. To the extent that golden parachutes are unwarranted diversions of stockholder monies, they should be more common in firms with boards that own relatively little of the firms' stock than in firms with boards that own much stock. Thus: Hypothesis 2: The probability that firms will grant golden parachute contracts is negatively related to the percentage of total stock outstanding that their boards of directors own. The size of firms is likely to be related to their propensity to issue golden parachutes. Large firms, at least until 1984, were not considered likely takeover targets, so their managements had less incentive to acquire this particular perquisite than did small firms' managers. In addition, small firms may feel more need to offer such an exotic perquisite than do large firms. Thus: Hypothesis 3: The probability that firms will grant golden parachute contracts is negatively related to their size. Firms that are underperforming and therefore not achieving full potential profits are more likely to be takeover targets than are firms with healthy profits. Further, underperformers are more likely than strong firms to find it difficult to attract and retain qualified managers. Thus: Hypothesis 4: The probability that firms will grant golden parachute contracts is negatively related to their financial performance. Finally, since debt is unattractive to a potential raider, firms that are highly leveraged are less likely takeover targets than those that are not. In fact, adding financial leverage is a defensive tactic often used to avoid takeovers (Brealey & Myers, 1981: 674). Thus we expect: Hypothesis 5: The probability that firms will grant golden parachute contracts is negatively related to their debt.