Research On The Influence Of Executive Incentive On Inefficient Investment

Investment decisions occupy an important position in the modern financial system. The operation of the business is carried out through a series of investment behavior. Investment decisions affect the operation of the business and thus affect the company’s financial decision-making. Efficiency investments are critical to the long-term development of the enterprise. Non-efficient investment relative to the enterprise optimal investment, divided into overinvestment and underinvestment. Excessive investment refers to that enterprises invest in the net present value of the negative investment projects, leading to the non-efficiency behavior; insufficient investment refers to that enterprises invest in a positive net present value investment projects, and the investment will reduce the pace of development of the enterprise. Non-efficient investment will lead to a decline in the value of the enterprise, and damage the interests of the shareholders. How can enterprises improve the company’s governance mechanisms in order to effectively curb excessive investment behavior is worthy scholars’widespread concern. Non-efficiency investments come from the agent. Due to the existence of the agency problem, how can a good incentive make state-owned enterprise executives to work hard and to enhance corporate performance is a very important issue.As China’s major economic components, state-owned enterprises are responsible for important economic responsibility. How to motivate state-owned enterprises executives to work hard, to improve the efficiency of the investment of state-owned enterprises is particularly important. State-owned enterprises must solve the agency problem. State-owned enterprises’lagged behind corporate governance mechanisms which leading to inefficient investment have a serious impacts on the performance of enterprises. The principal-agent theory proposed two ways to solve the agency problem. Firstly, establish an effective incentive mechanism. Secondly, establish an effective supervision system. Because of the separation of ownership, executives run the company. Executives have more information than the stockholders, and executives may use their more information to pursue private interests. In this case, the effective supervision can effectively avoid the short-term behavior of corporate executives. Executive incentive can be an effective solution to the problem of the agent. If the enterprise set unreasonable compensation contract, the efforts made by the executive team can not be satisfied. The corporate executives will appear opportunistic behavior. In that case executives will the decisions of insufficient investment or excessive investment. Executive agent is a very serious problem in the state-owned enterprises. The Non-efficient investment would undermine the value of the business. In state-owned enterprises establishing an effective incentive mechanism can reduce the agency costs. With the constant improvement of the governance mechanism, the state-owned enterprises will slowly build up a perfect governance mechanism.Since1980s, the study of China’s executive compensation, which mainly focusing on how it affects the enterprise performance and their relationships, has aroused attention of academia and became a hot issue. Jensen and Muphy (1990) point out that the salary system has a remarkable impact on enterprise, as it may affect the enterprise performance by affecting the mood of corporate executives, as well as junior staffs. Referring to the optimal contract theory, setting the incentive pay reasonably will reconcile executives’and stockholders’interests, and then inspire the executives to work hard for enterprise value and stockholders’gain. Thus, issuing incentive pay is an effective measure of solving the problems of agency due to rights separation. The existing work is mainly about the study of how salary system has an effect on business performance. But high-level investment operation will output positive net present value, which proves that enterprise’s investment behavior has a prominent impact on its performance. How incentive mechanism affects the investments behavior of SOEs’ top managers is studied in this paper and divided into three aspects, annual pay, equity, and promotion incentive. Through studying the influence of specific incentive mechanism on enterprise investment behavior, the fruitful incentive mechanism can be observed, which will give a theory foundation for incentive mechanism setting.This paper, including introduction, literature review, institutional background, theoretical foundation, empirical analysis, conclusions and recommendations, is divided into five parts. The structure of this paper is as follows,Part I:Introduction. In this part, the research background, the research contents, and the definition of basic terminologies are introduced. At the end of this part, the research contents, research approach, and structure arrangement are given.Part II:literature review. Several literatures, mainly about the influence of executive incentive on investment behavior, and incentive mechanisms, including salary, equity, and promotion incentive, is classified and reviewed in this part.Part III:Institutional background and theoretical basis. At the beginning of this part, the background of State-owned enterprises’alary system is introduced. The principal-agent theory and behavioral theory are also introduced in this part.Part IV:Empirical research. In this part, the hypothesis of this study is proposed, and then the influence of executive incentive on corporate investment behavior is validated through case study. Firstly, variable definitions and empirical model is issued. Secondly, the dependent, independent and control variables are set. Finally, the model and selected samples are regressed using STATA11. Based on the yield result, descriptive statistical analysis and regression analysis are carried out.Part V:conclusions. This part firstly summarized part IV, in which part the empirical results are work out, and then issued improvement recommendations according to the final conclusion. Finally, the contribution and deficiencies of this paper, the suggestions to the future research are given.Through empirical validation of the influence of executive incentive on non-efficiency investments, the following conclusions can be drawn.(1) The annual salary incentive, which is assessed by accounting performance generally, is significant positive correlation with the non-efficiency investment at1%level. When this short-term incentive is tankan into practice, the state-owned enterprise executives tend to over-or under-investment due to their private interests.(2) Equity Incentive, which is a long-term incentive and enable executives manage the enterprise as stockholder, is significant negative correlation with the non-efficiency investment at5%level. This incentive will inspire that executives make their investment decisions based on increasing the corporation value and reduce the non-efficiency investments.(3) Promotion incentive is significant positive correlation with the non-efficiency investment at1%level. Enterprise promotion incentives are associated with the performance of enterprises, which will induce executives’short-term act and resulting non-efficiency investments.To perfect corporate executive incentives and lower the non-efficiency investment, the following recommendations are proposed in this paper.(1) Enforce the equity incentive. As the empirical regression showing, equity incentive system can effectively inhibit the non-efficiency investment, and the salary system in an enterprise should take the short-and long-term into account at once.(2) Prefect the appraisal standard of salary incentive in SOEs. The annual salary incentive is set according to the accounting performance, and the empirical regression shows that the annual salary and promotion incentive is positive correlation with the non-efficiency investment, which proves that these incentives will impel executives incline to take short-term act to perfect the accounting performance and higher their own remuneration. Enterprises’incentive should be able to combine the short-and long-term incentive, and urge the executives invest efficiently and increase the enterprise value.(3) Strengthen the government’s supervision over SOEs. SOEs’governance should take several practicable measures, including strengthen internal supervision, increase the transparency of enterprise operate, public the real financial data and lower the regulatory difficulty due to information asymmetry. Meanwhile, effective external supervision, which will prompt financial information and salary system more transparent, minimize company-paid consumption and various privileges due to executives’position, should also be established.The contribution of this thesis is mentioned as following.(1) Studied and empirical validated the impact of executive incentive, including annual salary, equity, and promotion incentive, in SOEs on non-efficiency investment.(2) Introduced promotion incentive to executive incentive system. The existing executive incentive literatures mostly focus on the relationship of enterprise investment behavior and pay incentive or equity incentive, while ignoring the impact of promotion incentive.In SOEs, higher position always means more retribution, which will inspire executives a lot. Therefore, in the research of executive incentive of SOEs, we add promotion incentive as an explanatory variable and quantified with pay gap. The real case study in this paper also validated that Promotion incentive is positive correlation with the non-efficiency investment, as well as the viewpoint of behavior theory.There are also some limitations in this paper and need be further study..Firstly, we only selected SOEs as study object, while not analysis the difference between private enterprise and SOE. The comparison of these two different kinds of enterprises, and the reformation of executive incentive based on their difference are remaining for future study. Secondly, Due to lack of related research result of promotion incentive, we simply quantified it with pay gap in this paper. Whether there is more persuasive quantification method with other variables is also need to be study.