Does corporate governance affect CEO compensation in Indian manufacturing firms?

• Published date: 01 August 2020
• DOI: http://doi.org/10.1002/pa.2115
• Date: 01 August 2020
• Author: Damodar Suar,Pooja Patnaik

ACADEMIC PAPER

Does corporate governance affect CEO compensation in Indian

manufacturing firms?

Pooja Patnaik | Damodar Suar

Department of Humanities and Social

Sciences, Indian Institute of Technology

Kharagpur, Kharagpur, India

Correspondence

Pooja Patnaik, Indian Institute of Technology

Kharagpur, Kharagpur 721302, WB, India.

Email: pooja.patnaik237@gmail.com

This study examines the effects of (a) chief executive officers (CEO) pay dynamics,

(b) corporate governance characteristics, and (c) the impact of environmental, social,

and governance disclosure practices on CEO compensation. Data of 282 Indian

manufacturing firms were collected from Bloomberg database from 2013–14 to

2018–19. This study uses Generalized Method of Moments estimation technique to

assess the impact of corporate governance on CEO compensation. The empirical esti-

mates reveal that increase in board size, board independence, women director in

board, CEO duality, and institutional holdings reduced CEO compensation. Further-

more, the environmental, social, and governance disclosure confirmed that higher

firm disclosures help to streamline CEO compensation. It has also been found that

CEOs' current compensation is affected by their previous pay. This study corrobo-

rates the objectives of Companies Act 2013 to streamline the governance practices

for optimizing CEO compensation.

1|INTRODUCTION

Over the past decade, compensation of chief executive officers

(CEOs) has increased exponentially. Even CEOs compensation has

been reported to be 431 times more than that of shop floor

employees (Clarke, 2009). This is probably because CEOs are respon-

sible for strategic decision-making, have no formal job descriptions,

and often work in a competitive and volatile business environment. In

addition, the demand for talented CEOs is more than their supply.

This paves way for lucrative pay of CEOs. The rise in compensation

happens because CEOs collude with corporate boards to fix compen-

sation comprising of equity-based options, cash compensation, and

benefits (Kim, Lee, & Shin, 2017; Sapp, 2008). This makes CEOs com-

pensation as a subject of scrutiny.

The Euro-American literature has revealed the influence of board

attributes, executive profile, ownership structure, and firm perfor-

mance in deciding CEO compensation (Hahn & Lasfer, 2011; Tian,

2013). Contrarily, equivocal findings are reported from developing

countries such as India and Pakistan on the influence of board attri-

butes, executive characteristics, ownership structure, and firm perfor-

mance on CEO compensation. While some studies have reported a

positive association of board attributes and ownership structure with

CEO compensation (Sheikh, Shah, & Akbar, 2018), others have

documented an inverse relationship between the two (Croci,

Gonenc, & Ozkan, 2012; Jaiswall & Bhattacharyya, 2016), and still

others report no relations (Balasubramanian, Barua, & Karthik, 2015;

Jaiswall & Firth, 2009). The inconclusive findings create scope to

reinvestigate and ascertain the implication of corporate governance in

the determination of CEO compensation, particularly in an emerging

economy like India.

To address scams, corruptions, and ineffective corporate gover-

nance, the Companies Act 2013 in India has streamlined the corporate

structures and processes (Kaur & Singh, 2018). The reason for

streamlining corporate governance structure is to bring transparency,

efficiency, reduce information asymmetry, and to minimize inequity in

prevailing compensation of CEOs (Baker, Bivens, & Schieder, 2019).

The CEOs compensation increases obstinately as the CEO pay is

linked with market value of the firm. When there is escalation in CEO

pay, the pay of other top level managers also increases while the pay

of the middle and lower level employees does not increase substan-

tially. It is necessary to reduce this unexplained pay gap as it creates a

climate of inequity, employees' dissatisfaction, and affects the econ-

omy too (Baker et al., 2019). A good governance structure tries to

instill an ethical climate within firms to enhance accountability, trust,

transparency, and reduce fraudulent practices. Few studies have

investigated the impact of recent governance regulations on CEO

Received: 5 February 2020 Accepted: 8 March 2020

DOI: 10.1002/pa.2115

J Public Affairs. 2020;20:e2115. wileyonlinelibrary.com/journal/pa © 2020 John Wiley & Sons, Ltd 1of12

https://doi.org/10.1002/pa.2115