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agency conflicts. Consistent with this concept, Dey (2008) finds that firms with higher levels
of agency conflict have more “efficient” governance structures in place, particularly more
independent and better functioning boards and audit committees, and a better quality auditor.
Therefore, firms with higher (lower) levels of agency conflict may be less (more) likely to
give audit committee members equity compensation. Stated formally,
H1: Firms with higher levels of agency conflict are less likely to grant equity-based
compensation to their audit committee members.
3.2 Overlap of Audit Committee and Compensation Committee Members
Although regulatory changes and increased work requirements have made it less
common for audit and compensation committees to share membership and leadership
(Larcker et al., 2014), in 2012, 74 % of publicly traded companies in the United States still
had one or more overlapping members on these two committees.
3
Hoitash and Hoitash
(2009) argue that conflict exists between the objectives of the audit committee and those of
the compensation committee. While incentive-based compensation, which is favored by
compensation committees, can motivate CEOs to work harder, it is also possible that a
greater weight on incentives increases CEOs’ motivation to manipulate earnings, thus
increasing the monitoring risk that audit committee members have to bear. However, the
conflicts can be avoided to some extent when it comes to the audit committee members’
remuneration. Specifically, fewer conflicts exist if some audit committee members also sit on
the compensation committee. We can divide compensation committee members into two
groups: pure compensation committee members, those who do not sit on an audit committee,
and overlapping compensation members, those who also sit on an audit committee. One of
the compensation committee’s primary goals is to structure a compensation package that
aligns executives’ objectives with those of shareholders. One way to achieve this goal that is
favored by pure compensation committee members is to structure contracts that include more
performance-based incentives, which generally take two forms: cash bonuses and equity
compensation. In addition to setting the pay for executives, compensation committees in
U.S. companies are responsible for determining the compensation of the board members as
3 The Sarbanes Oxley Act of 2002 sets greater audit specialization and stricter members’ background
requirements. The Dodd Frank Act of 2010 imposes new rules related to pay disclosure and the adoption
of “say on pay.” Together, these acts might increase the workload of these committees and discourage
directors from serving on both committees.