The Role and Effect of Compensation Consultants on CEO Pay

We examine the effect of compensation consultants on CEO pay. Using a sample of 292 firms in 2006 randomly selected from ExecuComp, we find that compensation consultants are associated with higher salaries, consistent with the hypothesis that consultants help boards of directors justify excessive CEO pay. However, we also find that the use of a consultant is associated with lower bonuses and total compensation. In addition, we find that when consultants are used, CEO pay has greater sensitivity to performance, particularly negative performance, consistent with consultants devising pay schemes that hold CEOs more accountable for poor performance. Finally, we find that compensation committees are more forthcoming in their disclosure of executive pay when a consultant is used. Together our findings suggest that executive pay schemes reflect (more) efficient contracting when consultants are involved in the compensation process. Perhaps as a result, we find that compensation committees provide more details of such pay packages when they have hired a consultant. Overall, our results are more consistent with the efficient contracting hypothesis than with the rent extraction hypothesis. We gratefully acknowledge the financial support of the Alliance Center for Global Research and Development at INSEAD and the Wharton School. We appreciate helpful comments from Katerina Semida. This project involved extensive hand collection of data. We thank Nichole Kim, Cheng Li, Christine Roh, Katerina Semida, Shari Singh and YinYin Yu for their help with this effort.