| What effect can be caused by implementing management equity incentive to the enterprise value? For a long time, there is no agreed conclusion of the research from the scholars. Convergence of Interests Hypothesis put forward by Jensen and Meckling (1976)believed that the equity incentive is an effective governance mechanism to reduce the moral hazard of managers,and it linked the manager's earnings and shareholders' value to form a common behavior guide and interest orientation. Managerial Entrenchment Hypothesis proposed by Fama and Jensen (1983) believed that endowing managers a higher proportion of equity may be not for maximizing the value of the enterprise, but for power rent-seeking to meet benefit maximization of their own.However, most existing researches were limited to the equity incentive effect on business performance, while ignoring the contribution of equity capital cost to enterprise value, and therefore, the equity incentive effect on enterprise value couldn't be interpreted convincingly. Along with financial scandals outbroke in Enron, WorldCom and other internationally renowned enterprises, the interests of shareholders and investors were damaged and enterprises were discredited, while the enterprise executives were pocketed because of the equity incentive plan. People's concern about whether equity incentive will exacerbate the agency risk (conflict), causing the rise of equity capital cost and damage to enterprise value was generated.In China's capital market, the reform of non-tradable shares promoted free negotiability of the stock, and it removed system obstacles for the smooth implementation of equity incentive. After the issuing of China's "Equity Incentive Management Approach for Listed Companies" in December 31,2005,listed companies running with equity incentive plan sprang up. However, due to the imperfections of China's capital market laws and regulatory regimes,as well as the "innate" enterprise governance deficiencies due to the institutional reasons, various drawbacks were inevitable during carrying out equity incentive plan like low exercise price, quite loose performance target of exercise, short waiting period and the exercise period, as well as the unscrupulous manipulation of information disclosure. Because of this, the paper attempted, in the initial stage of equity incentive plan application,explored whether such "fresh" incentives could play a positive role for the value of listed companies in China.The sample data of listed companies from 2007 to 2013 was used in this paper to demonstrate the impact of equity incentive on the cost of equity capital, and the following conclusions were reached:First of all, from the aspect of information asymmetry, business managers tended to deviate from the objective of maximizing shareholders' value but to maximize the benefits of their own, such objective moral hazard and adverse selection behavior were just the culprit of agency conflicts. The empirical results showed that: the equity incentive plan was not a necessary factor or precondition in creating business performance and economic development, it related closely to the capital market environment and development level,and was inseparable with strict regulatory system. Under our existing governance environment, institutional environment and regulatory conditions, generally speaking,equity incentive did not effectively relieve agency conflicts of listed companies, in those listed companies which have already implemented equity incentive programs, the cost of equity capital increased along with the rise of management equity incentive level; incentive effect arising from the equity incentive plan for the enterprises with different ownership properties were different, equity incentive plan implemented by the state-owned holding enterprises was reflected as the increased executive powers, which was prone to trigger management "entrenchment effect",cause incentive target opportunistic and self-severing behavior on opportunity selection, thereby intensifying enterprises' financial risks and long-term business risks, thus increasing the uncertainty in enterprises' future profitability and forcing investors to improve its essential ROI. However, compared to the state-owned holding enterprises, equity incentive effects of non-state-owned enterprises were better and mostly reflected the equity incentive's "convergence interest effect".Secondly, institutional environment and regulatory conditions of China's equity incentive plan were not well developed, low vesting conditions, low exercise price and short incentive term were likely to cause incentive target opportunistic and self-severing behavior on opportunity selection, and lower earnings quality of listed companies resulted by equity incentive, which were prevalent in the state-owned holding enterprises and non-state owned enterprises; the interaction of equity incentives and earnings quality have a significant positive influence on equity capital cost of enterprises,because lower accounting earnings information quality would exacerbate financial risk and long-term operational risk,so that the uncertainty about enterprises' future profitability investors suffered was increased, while increasing the return rate on equity capital required by them would ultimately lead to the growing of equity capital cost, which was not conducive to enterprises, value maximization.Thirdly, from the aspect of the salary structure, the equity incentive plan allowed the floating part in current executive salary system to increase gradually, "different pays for same position" happened less than before,and such diversified salary system also promoted the internal pay gap within the executives of listed companies; under the joint effect of equity incentive plan and the internal pay gap within the executives, enterprises' equity capital cost was significantly increased; compared with non-state-owned holding enterprises, there was a higher sensitivity between the interacted effect of equity incentive and the pay gap within the executives and equity capital cost in state-owned enterprises.This provided a new perspective for the research of the effectiveness of the equity incentive plan, and offered empirical evidences for further research about the factors influencing the widening of internal pay gap within enterprise's executives.Finally, from aspect of behavioral finance, the optimal contract theory and the managerial power approaches all neglected another important reason for agency risk generated by equity incentive, which is well known as managers' cognitive biases. If the implementation of equity incentive plan allowed the managers to have cognitive bias about the cost and profit of investment and financing projects, in another saying, overestimating profits or underestimating risks, it could lead to irrational decisions of managers and increase enterprises' financial risk and operational risk, thereby enhancing investors' risk premium level,that is to say, enterprises' equity capital cost was increased. The research concluded that the implementation of a formal equity incentive plan increased the probability of managerial overconfidence, while the interaction of equity incentive and executive overconfidence would cause a significant positive impact on investors' expected rate of return (equity capital cost), which indicated that, under the effect of equity incentive,positive incentives the managers received during exercising right would strengthen the managers' cognition,likely to show overconfidence and other deviant behaviors,thereby increasing business risk, leading to higher enterprises equity capital cost.By focusing on the above conclusions, the following innovations were formed in this paper:At first, different with the researches in a number of existing related literature were confined to discuss the effect of equity incentive on enterprise performance, this paper was from the perspective of shareholders and of investors interests, proceed with the essential for impacting enterprise value——discount rate of risk premium, investigated whether executive equity incentive plans of listed companies could control enterprises' equity capital cost by affecting agency risk,thus affecting the enterprise's or shareholder's value.The empirical finding showed that the implementation of equity incentive plans of listed companies is ineffective in relieving agency conflict between shareholders and managers under the existing governance environment, institutional environment and regulatory conditions in our country, which goes against the effect of equity incentive plan that people imagine for a long time, which means reducing managers' moral hazard because of information asymmetry.Secondly, given the pay gap is an important tool in measuring the efficiency of enterprise governance (Bebchuk,Fried and Walker,2011),the executives' pay gap has become an indicator reflecting managerial moral hazard. This paper considered internal pay gap within executives as a new factor affecting agency risk, examined the impact of the interaction of executive equity incentive and internal pay gap on enterprises' equity capital cost. This paper not only demonstrated that equity incentive is an important factor widening the executives' pay gap, provides a new perspective for the researches about executives' pay gap in China,but also focused on the influence of executive pay gap widening to enterprises' equity capitals cost, and conducted a useful supplement for exploring the relationship between executives' pay gap.Thirdly, this paper investigated the influence of equity incentive on enterprises' equity capital cost from the perspective of hot topic in behavioral finance research——managerial overconfidence, and expanded the research about equity incentive effect to enterprise value from the perspective of managers' individual psychology cognitive bias. Because most of the literature mainly emphasized the relationship between the equity incentive and agency problems (increasing agency risk or decreasing agency conflict), and examined the impact of the consequences to enterprises' current performance,while the findings were not consistent,and the economic consequences of equity incentive was also hard to be recognized. Based on previous researches about influencing factors of managerial overconfidence (Rao Yulei and Jia Wenjing, 2011), this paper verified whether the equity incentive could promote the level of managerial overconfidence through the empirical method, and provided new empirical evidence for the researches of factors affecting executives' overconfidence.Governance situation and institutional background of China's listed companies were combined in this paper to explore whether this newly emerged equity incentive could play an active role in enterprise governance effectively, bring value contribution to listed companies' shareholders and investors, and possess a positive theory significance and practical value. This paper filled gaps in researches about the influence of equity incentive on enterprises' equity capital cost, not only could help investors have a better insight into the behavior of enterprises implementing equity incentive and the consequences of equity incentive plan implementation, but also provide valuable reference for policy makers and supervision department to constrain and supervise of equity incentive plan carried out by listed companies. |
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