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We measure a manager’s risk-taking incentives as the total sensitivity of the manager’s debt, stock, and option holdings to firm volatility. We compare this measure with the option vega and with the relative measures used by the prior literature. Vega does not capture risk-taking incentives from managers’ stock and debt holdings and does not reflect the fact that employee options are warrants. The relative measures do not incorporate the sensitivity of options to volatility. Our new measure explains risk choices better than vega and the relative measures and should be useful for future research on managers’ risk choices. Data and the online appendix are available at https://doi.org/10.1287/mnsc.2017.2811 . This paper was accepted by Shiva Rajgopal, accounting.

This paper examines when information asymmetry among investors affects the cost of capital in excess of standard risk factors. When equity markets are perfectly competitive, information asymmetry has no separate effect on the cost of capital. When markets are imperfect, information asymmetry can have a separate effect on firms' cost of capital. Consistent with our prediction, we find that information asymmetry has a positive relation with firms' cost of capital in excess of standard risk factors when markets are imperfect and no relation when markets approximate perfect competition. Overall, our results show that the degree of market competition is an important conditioning variable to consider when examining the relation between information asymmetry and cost of capital.

This paper investigates whether the business press serves as an information intermediary. The press potentially shapes firms' information environments by packaging and disseminating information, as well as by creating new information through journalism activities. We find that greater press coverage reduces information asymmetry (i. e., lower spreads and greater depth) around earnings announcements, with broad dissemination of information having a bigger impact than the quantity or quality of press-generated information. These results are robust to controlling for firm-initiated disclosures, market reactions to the announcement, and other information intermediaries. Our findings suggest that the press helps reduce information problems around earnings announcements.

We investigate Gompers, Ishii, and Metrick's (2003) finding that firms with weak shareholder rights exhibit significant stock market underperformance. If the relation between poor governance and poor returns is causal, we expect that the market is negatively surprised by the poor operating performance of weak governance firms. We find that firms with weak shareholder rights exhibit significant operating underperformance. However, analysts' forecast errors and earnings announcement returns show no evidence that this underperformance surprises the market. Our results are robust to controls for takeover activity. Overall, our results do not support the hypothesis that weak governance causes poor stock returns.

We use changes in the value of a firm's real estate assets as an exogenous change in a firm's financing capacity to examine (1) the relation between reporting quality and financing and investment conditional on this change, and (2) firms' reporting quality responses to the change in financing capacity. We find that financing and investment by firms with higher reporting quality is less affected by changes in real estate values than are financing and investment by firms with lower reporting quality. Further, firms increase reporting quality in response to decreases in financing capacity. Our findings contribute to the literature on reporting quality and investment, and on the determinants of reporting quality choices.

We compute and compare risk-adjusted CEO pay in the United States and United Kingdom, where the risk adjustment is based on estimated risk premiums stemming from the equity incentives borne by CEOs. Controlling for firm and industry characteristics, we find that U.S. CEOs have higher pay, but also bear much higher stock and option incentives than U.K. CEOs. Using reasonable estimates of risk premiums, we find that risk-adjusted U.S. CEO pay does not appear to be large compared to that of U.K. CEOs. We also examine differences in pay and equity incentives between a sample of non-U.K. European CEOs and a matched sample of U.S. CEOs, and find that risk-adjusting pay may explain about half of the apparent higher pay for U.S. CEOs.

Using data on directors' and officers' insurance policies gathered from a sample of Canadian firms, this article examines the determinants of firms' demand for D&O insurance. Firms with greater litigation risk are more likely to purchase insurance and carry higher limits and deductibles. The data do not support the hypothesis that director cash compensation substitutes for D&O insurance. Consistent with the hypotheses of Mayers and Smith (1982, 1987), firms with greater distress probability and utilities are more likely to purchase insurance and carry higher limits. However, firms with greater inside shareownership are less likely to purchase insurance and carry lower limits. Firms with greater inside voting control are more likely to purchase insurance and carry higher limits.

We empirically examine standard agency predictions about how performance measures are optimally weighted to provide CEO incentives. Consistent with prior empirical research, we document that the relative weight on price and non-price performance measures in CEO cash pay is a decreasing function of the relative variances. Agency theory speaks to the weights in total compensation (annual total pay and changes in the CEO's equity portfolio value), however, and we document that very little of CEOs' total incentives come from cash pay. We also document that variation in the relative weight on price and non-price performance measures in CEO total compensation is an increasing function of the relative variances. The conflicting results using total compensation indicate that existing findings on cash pay cannot be interpreted as evidence supporting standard agency predictions. Based on our results, we suggest approaches for future research on performance measure use in CEO total compensation.

Using a sample of directors' and officers' (D & O) premiums gathered from the proxy statements of Canadian companies, this article examines the D & O premium as a measure of ex ante litigation risk. I find a significant association between D & O premiums and variables that proxy for the quality of firms' governance structures. The association between the proxies for governance structure quality and D & O premiums is robust to a number of alternative specifications. This article provides confirmatory evidence that the D & O premium reflects the quality of the firm's corporate governance by showing that measures of weak governance implied by the D & O premium are positively related to excess CEO compensation. The overall results suggest that D & O premiums contain useful information about the quality of firms' governance.