Compensation/audit committee overlap and the design of compensation systems
International Journal of Disclosure and Governance
This study examines the association between director overlap (defined as overlapping membership on the compensation and audit committees) and incentive-based compensation schemes. Using a sample of firms in the S&P 500 over the period 1997-2005, we find that cash compensation plans are not associated with director overlap, while option compensation is negatively associated with director overlap. These results suggest that knowledge of the misstatement-inducing effects of option-based compensation may spill over from the audit committee to the compensation committee, which may lead the compensation committee to reduce the option-based component of executive compensation. This research sheds some light on the association between board structure and corporate governance effectiveness. Its findings have important practical implications. Given the limited number of board members available, the organization must consider how to allocate an individual director among different committees. The findings of this research provide some guidance in this regard. For instance, this study suggests that the overlapping of the compensation committee and the audit committee may be beneficial to the design of compensation schemes because of the knowledge spillover between the two committees.