Does Shareholder Scrutiny Affect Executive Compensation? Evidence from Say-on-Pay Voting

Mathias Kronlund

University of Illinois at Urbana-Champaign

Shastri Sandy

University of Missouri at Columbia


As a result of the Dodd-Frank Act of 2010, public firms must periodically hold advisory shareholder votes on executive compensation (“say on pay”). We examine how firms change the structure and level of executive pay when they face a say-on-pay vote. Our identification strategy exploits within-firm variation in the intensity of shareholder scrutiny, by comparing compensation across years when a firm is expected to face a vote, versus years when it is not. This strategy is enabled by firms that hold votes every other two or three years, resulting in a predetermined cyclical schedule for whether a particular year’s compensation will be put to a vote. We find that firms reduce salaries to CEOs but increase their stock awards, pensions, and deferred compensation in years when they face a vote. The additional pay (mainly from stock awards) outweighs the reduction in salaries, so total pay is higher in years with a vote. These results show that increased shareholder scrutiny — in the form of holding say-on-pay votes — changes how executives are compensated. However, these changes seem mainly to improve the “optics” of pay, and, contrary to the goals of the say-on-pay regulation, result in higher, not lower, total pay.

Does Shareholder Scrutiny Affect Executive Compensation? – Introduction

On January 25, 2011, the Securities and Exchange Commission adopted a rule that provided shareholders in most U.S. public firms with an advisory vote on executive compensation (often called “say-on-pay”).1 The rule required firms to hold a first say-on-pay vote at their next annual meeting, and continue to hold such votes at least once every three years thereafter.

Shareholders were also to vote during that same meeting on “say-on-pay frequency,” i.e., how often to hold say-on-pay votes in the future: whether every one, two, or three years (firms must hold new votes on the say-on-pay frequency at least every six years). One of the main goals of the say-on-pay mandate was to increase shareholder scrutiny of executive pay, and thus alleviate perceived governance problems when boards decide on executive compensation. Previous research has shown that poor governance is related to high CEO pay and poor pay-for-performance (Core, Holthausen, and Larcker (1999); Bertrand and Mullainathan (2001); Bebchuk and Fried (2004a)).2 In a survey of institutional investors, around half of the respondents expected to engage directly with firms’ management about executive compensation as part of the say-on-pay voting process.

Even though a vast majority of all say-on-pay votes thus far have passed (98% of say-onpay votes in 2012 passed), we hypothesize that simply having a vote could change how firms compensate executives, as they anticipate increased scrutiny of pay around these votes. In particular, firms may seek to make changes to executive pay in ways to ensure that these votes pass.

The theoretical impact of having a say-on-pay vote on executive compensation is ambiguous. On the one hand, it is possible that shareholder scrutiny in the form of having a vote results in more efficient compensation practices, for example, in the form of stronger alignment between pay and performance, or in the form of lower pay if past pay was excessive. This could happen because say-on-pay improves governance by giving shareholders an automatic “voice” (Hirschman (1970)) on executive pay, or by overcoming a collective action problem among shareholders (Black (1998)). Say-on-pay may also improve compensation practices simply because directors pay more attention to executive compensation when they know that the pay packages they award will face increased scrutiny.

On the other hand, it is also possible that say-on-pay results in less efficient compensation practices. For example, having a say-on-pay vote may lead firms to excessively conform with the guidelines of proxy advisors, who tend to prefer specific pay practices that may not sufficiently account for each firm’s unique circumstances. Proxy advisors play a crucial role to the extent that some shareholders “outsource” the decision of how to vote to these advisors (Larcker, McCall, and Ormazabal (2013)). Second, say-on-pay may cause firms to simply improve the “optics” of pay, that is, provide executives with pay packages that look better to shareholders, even though they may actually be less efficient.

Executive Compensation

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