Essays on behavioral aspects of the design and disclosure of compensation contracts

This thesis consists of four essays on the design and disclosure of compensation contracts. Essays 1, 2 and 3 focus on behavioral aspects of mandatory compensation disclosure rules and of contract negotiations in agency relationships. The three experimental studies develop psychology- based theory and present results that deviate from standard economic predictions. Furthermore, the results of Essay 1 and 2 also have implications for firms’ discretion in how to communicate their top management’s incentives to the capital market. Essay 4 analyzes the role of fairness perceptions for the evaluation of executive compensation. For this purpose, two surveys targeting representative eligible voters as well as investment professionals were conducted. Essay 1 investigates the role of the detailed ‘Compensation Discussion and Analysis’, which is part of the Security and Exchange Commission’s 2006 regulation, on investors’ evaluations of executive performance. Compensation disclosure complying with this regulation clarifies the relationship between realized reported compensation and the underlying performance measures and their target achievement levels. The experimental findings suggest that the salient presentation of executives’ incentives inherent in the ‘Compensation Discussion and Analysis’ makes investors’ performance evaluations less outcome dependent. Therefore, investors’ judgment and investment decisions might be less affected by noisy environmental factors that drive financial performance. The results also suggest that fairness perceptions of compensation contracts are essential for investors’ performance evaluations in that more transparent disclosure increases the perceived fairness of compensation and the performance evaluation of managers who are not responsible for a bad financial performance. These results have important practical implications as firms might choose to communicate their top management’s incentive compensation more transparently in order to benefit from less volatile expectations about their future performance. Similar to the first experiment, the experiment described in Essay 2 addresses the question of more transparent compensation disclosure. However, other than the first experiment, the second experiment does not analyze the effect of a more salient presentation of contract information but the informational effect of contract information itself. For this purpose, the experiment tests two conditions in which the assessment of the compensation contracts’ incentive compatibility, which determines executive effort, is either possible or not. On the one hand, the results suggest that the quality of investors’ expectations about executive effort is improved, but on the other hand investors might over-adjust their prior expectations about executive effort if being confronted with an unexpected financial performance and under-adjust if the financial performance confirms their prior expectations. Therefore, in the experiment, more transparent compensation disclosure does not lead to more correct overall judgments of executive effort and to even lower processing quality of outcome information. These results add to the literature on disclosure which predominantly advocates more transparency. The findings of the experiment however, identify decreased information processing quality as a relevant disclosure cost category. Firms might therefore carefully evaluate the additional costs and benefits of more transparent compensation disclosure. Together with the results from the experiment in Essay 1, the two experiments on compensation disclosure imply that firms should rather focus on their discretion how to present their compensation disclosure to benefit from investors’ improved fairness perceptions and their spill-over on performance evaluation. Essay 3 studies the behavioral effects of contextual factors in recruitment processes that do not affect the employer’s or the applicant’s bargaining power from a standard economic perspective. In particular, the experiment studies two common characteristics of recruitment processes: Pre-contractual competition among job applicants and job applicants’ non-binding effort announcements as they might be made during job interviews. Despite the standard economic irrelevance of these factors, the experiment develops theory regarding the behavioral effects on employees’ subsequent effort provision and the employers’ contract design choices. The experimental findings largely support the predictions. More specifically, the results suggest that firms can benefit from increased effort and, therefore, may generate higher profits. Further, firms may seize a larger share of the employment relationship’s profit by highlighting the competitive aspects of the recruitment process and by requiring applicants to make announcements about their future effort. Finally, Essay 4 studies the role of fairness perceptions for the public evaluation of executive compensation. Although economic criteria for the design of incentive compensation generally do not make restrictive recommendations with regard to the amount of compensation, fairness perceptions might be relevant from the perspective of firms and standard setters. This is because behavioral theory has identified fairness as an important determinant of individuals’ judgment and decisions. However, although fairness concerns about executive compensation are often stated in the popular media and even in the literature, evidence on the meaning of fairness in the context of executive compensation is scarce and ambiguous. In order to inform practitioners and standard setters whether fairness concerns are exclusive to non-professionals or relevant for investment professionals as well, the two surveys presented in Essay 4 aim to find commonalities in the opinions of representative eligible voters and investments professionals. The results suggest that fairness is an important criterion for both groups. Especially, exposure to risk in the form of the variable compensation share is an important criterion shared by both groups. The higher the assumed variable share, the higher is the compensation amount to be perceived as fair. However, to a large extent, opinions on executive compensation depend on personality characteristics, and to some extent, investment professionals’ perceptions deviate systematically from those of non-professionals. The findings imply that firms might benefit from emphasizing the riskiness of their managers’ variable pay components and, therefore, the findings are also in line with those of Essay 1.

A test of competing explanations of compensation demanded

We find that prospect theory behavior is significantly more prevalent than utility theory behavior in experiments involving multiple, real items. In the experiments, subjects were endowed with three items and asked the minimum payments they required to be willing to return one, two, or three of them. Our key observation is that prospect theory implies concavity of compensation demanded, whereas utility theory implies convexity. We examine whether the compensation demanded is convex or concave in the number of items returned. (JEL C91).

Transparency of the municipal public management: a study from the homepages of the large Brazilian municipalities

This study attempts to check the transparency level of information in public administration published in the homepages of 96 municipalities included among the 100 most populous in Brazil and what characteristics and socioeconomic indicators of the municipalities can contribute to explain the level of transparency observed. The level of transparency in public administration was established from a research model called Transparency Index Municipal Public Management (ITGP-M) constructed based on international codes of good governance and transparency, the Brazilian legislation and the experiences of previous studies of similar nature conducted in Brazil and abroad. The empirical evidence point to low levels of transparency, incompatible with the level of socioeconomic development of municipalities. Moreover, we can conclude that, overall, there is an association between the socioeconomic conditions of the municipalities and the levels of transparency in the disclosure of information about public administration observed in sites of large municipalities as in this study.

On the analysis of compensation correctness

One fundamental idea of service-oriented computing is that applications should be developed by composing already available services. Due to the long running nature of service interactions, a main challenge in service composition is ensuring correctness of transaction recovery. In this paper, we use a process calculus suitable for modelling long running transactions with a recovery mechanism based on compensations. Within this setting, we discuss and formally state correctness criteria for compensable processes compositions, assuming that each process is correct with respect to transaction recovery. Under our theory, we formally interpret self-healing compositions, that can detect and recover from faults, as correct compositions of compensable processes. Moreover, we develop an automated verification approach and we apply it to an illustrative case study.

The variation in transparency of amniotic membrane used in ocular surface regeneration

Background/aims: Scant consideration has been given to the variation in structure of the human amniotic membrane (AM) at source or to the significance such differences might have on its clinical transparency. Therefore, we applied our experience of quantifying corneal transparency to AM. Methods: Following elective caesarean, AM from areas of the fetal sac distal and proximal (ie, adjacent) to the placenta was compared with freeze-dried AM. The transmission of light through the AM samples was quantified spectrophotometrically; also, tissue thickness was measured by light microscopy and refractive index by refractometry. Results: Freeze-dried and freeze-thawed AM samples distal and proximal to the placenta differed significantly in thickness, percentage transmission of visible light and refractive index. The thinnest tissue (freeze-dried AM) had the highest transmission spectra. The thickest tissue (freeze-thawed AM proximal to the placenta) had the highest refractive index. Using the direct summation of fields method to predict transparency from an equivalent thickness of corneal tissue, AM was found to be up to 85% as transparent as human cornea. Conclusion: When preparing AM for ocular surface reconstruction within the visual field, consideration should be given to its original location from within the fetal sac and its method of preservation, as either can influence corneal transparency.

Are informed citizens more trusting? Transparency of performance data and trust towards a British police force

In Britain, substantial cuts in police budgets alongside controversial handling of incidents such as politically sensitive enquiries, public disorder and relations with the media have recently triggered much debate about public knowledge and trust in the police. To date, however, little academic research has investigated how knowledge of police performance impacts citizens’ trust. We address this long-standing lacuna by exploring citizens’ trust before and after exposure to real performance data in the context of a British police force. The results reveal that being informed of performance data affects citizens’ trust significantly. Furthermore, direction and degree of change in trust are related to variations across the different elements of the reported performance criteria. Interestingly, the volatility of citizens’ trust is related to initial performance perceptions (such that citizens with low initial perceptions of police performance react more significantly to evidence of both good and bad performance than citizens with high initial perceptions), and citizens’ intentions to support the police do not always correlate with their cognitive and affective trust towards the police. In discussing our findings, we explore the implications of how being transparent with performance data can both hinder and be helpful in developing citizens’ trust towards a public organisation such as the police. From our study, we pose a number of ethical challenges that practitioners face when deciding what data to highlight, to whom, and for what purpose.

EU Copyright Law, Lobbying and Transparency of Policy-Making: The cases of sound recordings term extension and orphan works provisions

The objective of this paper is to discuss EU lobbying in the area of copyright. Legislation needs to regulate the legal position of various different stakeholders in a balanced manner. However, a number of EU copyright provisions brought into effect over recent years were highly controversial and have led to suggestions that powerful lobbying forces may have had some influence. This article investigates the effects of lobbying on copyright law-making in Europe. A specific comparative and multi-faceted analysis is provided of the legislative process for two recently adopted directives: 2011/77/EU which extends the term of protection of sound recordings and 2012/28/EU which introduces certain permitted uses of orphan works (some references are also made to the ACTA case). Firstly, a short presentation is given of the legal bases for the EU consultation process and lobbying. Next, an analysis is provided of the two cases, taking into consideration the policy-making procedures (with special focus on how the consultation process was handled), the legal solutions proposed and adopted and the various stakeholders’ claims. Lastly, it asks why some interest groups were successful and some others failed (the analysis identifies two types of factor for the effectiveness of lobbying: those resulting from stakeholders’ actions and those connected with the consultation process).