Richard R. Townsend

How Do Quasi-Random Option Grants Affect CEO Risk-Taking?

The financial crisis renewed interest in the relation between compensation incentives and risk taking. We examine whether paying top executives with options induces them to take more risk. To identify the causal effect of options, we exploit two distinct sources of variation in option compensation that arise from institutional features of multi-year grant cycles. We find that a 10 percent increase in the value of new options granted leads to a 6 percent increase in firm equity volatility. This increase in risk is primarily driven by an increase in leverage. We also find that an increase in stock options leads to lower dividend growth with mixed effects on investment and firm profitability. JEL Classification: M52, J33, G32, G34We examine how an increase in stock option grants affects CEO risk-taking. The overall net effect of option grants is theoretically ambiguous for risk-averse CEOs. To overcome the endogeneity of option grants, we exploit institutional features of multi-year compensation plans, which generate two distinct types of variation in the timing of when large increases in new at-the-money options are granted. We find that, given average grant levels during our sample period, a 10 percent increase in new options granted leads to a 2.8–4.2 percent increase in equity volatility. This increase in risk is driven largely by increased leverage.

Growth Through Rigidity: An Explanation for the Rise in CEO Pay

The dramatic rise in CEO compensation during the 1990s and early 2000s is a longstanding puzzle. In this paper, we show that much of the rise can be explained by a tendency of firms to grant the same number of options each year. Number-rigidity implies that the grant-date value of option awards will grow with firm equity returns, which were very high on average during the tech boom. Further, other forms of CEO compensation did not adjust to offset the dramatic growth in the value of option pay. Number-rigidity in options can also explain the increased dispersion in pay, the difference in growth between the US and other countries, and the increased correlation between pay and firm-specific equity returns. We present evidence that number-rigidity arose from a lack of sophistication about option valuation that is akin to money illusion. We show that regulatory changes requiring transparent expensing of the grant-date value of options led to a decline in number-rigidity and helps explain why executive pay increased less with equity returns during the housing boom in the mid-2000s.

Experimenting with Entrepreneurship: The Effect of Job-Protected Leave

Do potential entrepreneurs remain in wage employment because of concerns that they will face worse job opportunities should their entrepreneurial ventures fail? Using a Canadian reform that extended job-protected leave to one year for women giving birth after a cutoff date, we study whether the option to return to a previous job increases entrepreneurship. A regression discontinuity design reveals that longer job-protected leave increases entrepreneurship by 1.9 percentage points. These entrepreneurs start incorporated businesses that hire employees—in industries where experimentation before entry has low costs and high benefits. The effects are concentrated among those with more human and financial capital.

Are Early Stage Investors Biased Against Women

We study whether early stage investors have gender biases using a proprietary data set from AngelList that allows us to observe private interactions between investors and fundraising startups. We find that male investors express less interest in female entrepreneurs compared to observably similar male entrepreneurs. In contrast, female investors express more interest in female entrepreneurs. These findings do not appear to be driven by within-gender screening/monitoring advantages or gender differences in risk preferences. Moreover, the male-led startups that male investors express interest in do not outperform the female-led startups they express interest in—they underperform. Overall, the evidence is consistent with gender biases.

Do Household Wealth Shocks Affect Productivity? Evidence from Innovative Workers During the Great Recession

Do household wealth shocks affect employee productivity? We examine this question through the lens of technological innovation, by comparing employees that worked at the same firm and lived in the same metropolitan area, but experienced different housing wealth declines during the 2008 crisis. Following a housing wealth shock, employees are less likely to successfully pursue innovative projects, particularly ones that are high impact, complex, or exploratory in nature. Consistent with employee concerns about financial distress, the effects are more pronounced among those who had little equity in their house before the crisis and among those with fewer outside labor market opportunities. Moreover, run-ups in housing prices before the crisis did not affect employee innovation. The results highlight a “bottom-up” view of innovation, in which individual employees influence the quantity and nature of innovation produced within firms.