The dark and bright sides of agency problems: Evidence from insider compensation of family pyramidal firms

Abstract Most research on agency problems focuses on the entrenchment of minority shareholders in the forms of excess executive compensation, unfair transactions among related parties, etc. ( La Porta, Lopez-de-Silanes, Shleifer, & Vishny, 2000 ; Shleifer & Vishny, 1997 ). This paper investigates how insiders’ compensation is impacted based on the types of agency problems. In particular, we examine if the positive association between agency problems and excess compensation reverses due to reputation effects. Specifically, controlling shareholders are inclined to curb on insider compensation to avoid disciplinary action by outsiders when investors are more likely to be aware of exploitation problems arising from severe agency problems. This study finds that the presence of pyramidal ownership structures, which are traditionally deemed as entrenchment mechanisms over minority shareholders, decreases pay-performance sensitivity only in non-family firms. In contrast, pyramidal ownership and higher control-ownership deviation reduce insider compensation in family firms. Namely, compensation serves as a commitment mechanism with the combination of family ownership and control-enhancing mechanisms. Moreover, prior studies argue that management compensation is lower in family firms compared with non-family firms, we find the results do not hold after controlling for the control-enhancing mechanisms.