Abstract

This paper provides empirical evidence of the effect stock options and total compensation on the job turnover of corporate Chief Executive Officers (CEOs). Our estimates indicate that both the amount and the composition of the compensation package are important determinants of CEO turnover probability. Holding the total amount of compensation constant, an increase in the proportion of stock options in the total compensation from the 25 percentile level to the 75 percentile level would result in a decrease in annual CEO turnover probability from 10 percent to 6.8 percent. The significant negative effect of stock options on CEO turnover is consistent with the view that options are used as deferred compensation to provide longer term incentives to CEOs. Moreover, holding the proportion of stock options constant, if the amount of total compensation increases from the 25 percentile level to the 75 percentile level, the annual turnover probability would decrease from 10 percent to 6.9 percent. Extraordinary amounts of CEO compensation are often justified based on the assumption that they encourage royalty and reduce turnover rate. The negative effect of the total compensation on turnover rate provides some support for such a claim. In addition, we found that a failure to control for the left censoring biases leads to severe underestimation of the effects of firm performance on CEO turnover probability. These biases may have lead previous studies to severely underestimate the dismissal related pay-for-performance sensitivity. The effect of interlocking directorship on CEO turnover probability also disappears after controlling for the biases.