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2007). Finally, audit committee members who are also top executives of other companies
may not prefer stocks and option pay because the contingency of equity pay increases their
personal risk, given that they already have a large portion of personal wealth linked to their
home company stocks (Westphal and Zajac, 1997).
Using 5,259 observations of U.S. companies from 2006 to 2012, we find that firms with
more agency conflict are less likely to give their audit committee members equity-based
compensation. The results indicate that when the concerns about firms’ agency conflicts are
substantial, firms give less equity-based compensation to audit committee members to
alleviate this concern. In addition, firms with a higher proportion of overlapping members on
audit and compensation committees are significantly more likely to use equity-based plans
for audit committee members. Because the upside potential of stocks and options is higher
relative to fixed salary, these overlapping committee members might prefer equity-based
compensation in order to increase their personal wealth. Finally, when more audit committee
members are also top executives of other firms, the likelihood of equity pay for audit
committee members is lower. The results suggest that because these top management
members already have a large amount of equity-based compensation from the company
where they serve as top managers, because of concerns about risk exposure, they prefer a
fixed salary from the board they sit on.
Our study contributes to the literature by identifying factors that might affect the
adoption of equity-based compensation for audit committee members. Prior studies have
examined the consequences of stocks and stock options for audit committee members, such
as the likelihood of earnings management, accounting restatements, or internal control
weaknesses. But few studies trace the relation back to its causes. Fich and Shivdasani (2005)
have identified general board and governance structures that are associated with adoption of
equity compensation plans for the whole board, such as board size and director fees.
Considering that more and more studies reveal the adverse effects of giving audit committee
members stocks and stock options , we extend their research by considering more factors and
investigating why companies still offer equity-based compensation to audit committee
members. Our study contributes to the understanding of how audit committee members’
compensation is structured.
The remainder of the paper is organized as follows. In Section 2, we provide some
background and a literature review related to the rise of equity compensation plans for
directors and audit committee members and overlapping membership on audit and
compensation committees. We then present our hypotheses in Section 3. Section 4 reports the