Abstract
Research Question/Issue: This study investigates how boards’ preferences for CEO risk taking evolve over time. We examine how boards recalibrate CEO equity incentives in response to external shocks, using the recognition of the Inevitable Disclosure Doctrine (IDD) as a natural experiment. Drawing on agency theory and the five-factor model of personality, we argue that compensation adjustments depend on the interaction between CEOs’ dispositional risk preferences – proxied by extraversion – and prior firm performance.
Research Findings/Insights: Analyzing a panel of U.S. firms from 1992 to 2019, we find that boards are more likely to increase equity-based incentives for extravert CEOs following the recognition of the IDD. This effect is particularly pronounced in underperforming firms, suggesting that boards weigh the risks and rewards of incentivizing strategic risk taking differently based on firm context and CEO personality. These findings indicate that boards re-evaluate the cost-benefit calculus of equity incentives over time.
Theoretical/Academic Implications: Our findings challenge the static assumptions of traditional agency theory by demonstrating that boards dynamically update their compensation strategies in response to external shocks and CEO traits. This contributes to research at the intersection of agency theory and upper echelons theory, advancing a more nuanced view of CEO incentive alignment.
Practitioner Implications: Boards may improve incentive alignment by tailoring compensation not only to firm performance but also to CEO personality. Equity incentives may be especially effective for extravert CEOs in underperforming firms, where the potential upside of strategic risk taking is greater.