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Managerial incentives for ESG in the financial services industry: direct and indirect association between ESG and executive compensation

Jooh Lee (Department of Management, Rohrer College of Business, Rowan University, Glassboro, New Jersey, USA)
Kyungyeon (Rachel) Koh (Department of Finance, California State University Channel Islands, Camarillo, California, USA)
Eunsup Daniel Shim (Department of Accounting, California State University Channel Islands, Camarillo, California, USA)

Managerial Finance

ISSN: 0307-4358

Article publication date: 14 September 2023

Issue publication date: 4 January 2024

1349

Abstract

Purpose

This study investigates the empirical association between environmental, social and corporate governance (ESG) performance and top executive compensation in the US financial services industry. Considering that financial firms can inflict systemic shocks across the economy, it has been argued that they must conduct ethical and sustainable business in accordance with ESG principles. This study examines whether ESG efforts are beneficial to managers.

Design/methodology/approach

The authors use CEO compensation and ESG performance ratings data for all US financial firms (SIC 6000–6799) from 2015 to 2019. Employing fixed effects regressions, the authors test whether lagged ESG performance is related to CEO compensation, after controlling for other firm characteristics such as size, financial performance, leverage and CEO stock ownership.

Findings

The authors find that lagged ESG ratings are strongly associated with all forms of compensation. An increase of one standard deviation in the composite ESG rating is associated with a 14%–16% increase in the total pay. Among the three ESG pillars, only S (social) and G (governance) exhibit persistent and significant associations with both short- and long-term executive pay. The authors also document the significant moderating effects of ESG on the relationships among firm performance, size, leverage, ownership and executive pay, identifying how ESG is associated with compensation.

Originality/value

The authors conclude that managers receive ESG incentives implicitly and explicitly. The novel finding of direct and indirect associations between ESG and top executive compensation contributes to the growing ESG literature on the financial sector and ongoing debate about the explicit inclusion of ESG targets in compensation design.

Keywords

Acknowledgements

The authors would like to thank the anonymous reviewers and the editor for their helpful comments and suggestions. Daniel Shim and Rachel Koh would like to thank Dr. Susan Andrzejewski and CSUCI workshop participants for their thoughtful comments.

Citation

Lee, J., Koh, K.(R). and Shim, E.D. (2024), "Managerial incentives for ESG in the financial services industry: direct and indirect association between ESG and executive compensation", Managerial Finance, Vol. 50 No. 1, pp. 10-27. https://doi.org/10.1108/MF-03-2023-0149

Publisher

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Emerald Publishing Limited

Copyright © 2023, Emerald Publishing Limited

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