Research On The Effectiveness Of Employee Compensation Structure

With the increasing importance of human capital in the creation of firm value,how to provide effective insurance and incentives for employees to promote the maximization of firm value has become a key issue facing Chinese firms.Herzberg’s motivation-hygiene theory states that there are separate sets of mutually exclusive factors in the workplace that either cause job satisfaction or dissatisfaction,namely hygienic and motivation factors.Employee compensation structure reflects the balance between employee insurance and employee incentives.Employee incentives are designed to encourage employees to make extra efforts and promote benefit sharing and risk sharing between employees and the firm.By linking employee benefits to the firm’s short-or long-term value,firms can strengthen the role of employees in decisionmaking and execution,motivate the role of supervisors,increase employee motivation to monitor management’s agency behavior,and improve the efficiency of corporate governance.Employee insurance aims to maintain the basic rights and interests of employees,ensure the role of employees in the implementation of managerial decisions,and meet the reproduction needs of the firm.This study examines how employee insurance and incentives in Chinese firms affect employees’ roles and firm behavior.This study is divided into two parts.Part I examines how performance-based employee compensation affects employees’ roles and firm behavior.First,this study investigates the effect of performance-based compensation on employee output.Performance-based compensation has multiple effects on employee innovation.On one hand,linking employee compensation to firm performance increases their efforts in innovation,and avoids underinvestment in innovation by strengthening employees’ governance roles.On the other hand,because innovation activities are characterized by higher uncertainty and risk of failure,employees concerned with their compensation may show short-termism and take actions that boost short-term firm performance.This study finds a positive relationship between pay-performance sensitivity and employee innovation.This relation strengthens for non-stated-owned firms,firms with higher competitive position,and firms in industries with lower average pay.In addition,high pay-performance sensitivity increases employees’ innovation efficiency and comprehensiveness and creativeness of patent output,further validating the positive effect of performancebased compensation on employee output.Second,this study examines the impact of performance-based employee compensation on earnings informativeness.Performance-based compensation motivates employees to participate in corporate governance,thereby reducing earnings management and increasing the information content of earnings.Meanwhile,it can prompt firms to decrease upward earnings management or increase downward earnings management to reduce employee costs.This also affects the information content of the firm’s earnings.Empirical evidence shows that higher pay-performance sensitivity is associated with lower discretionary accruals and a stronger relation between earnings and stock pricing,suggesting that performance-based compensation motivates employees to engage in corporate governance and increases earnings informativeness.Cross-sectional tests show that the above effect is more pronounced in firms with stronger employee governance,i.e.,firms with higher R&D intensity and facing fiercer industry competition.The effect is weaker when the pay disparity within the firm is lower,and when managers engage in earnings management to avoid losses.These findings have important implications for understanding the role of employees in corporate governance.Part II examines how enhanced employee insurance required by local governments affects employees’ roles and firm behavior using the implementation of the National Social Insurance Coverage Program(hereafter the Pilot Program)as the scenario.Since employee insurance is a decision made by firms based on the requirements of local governments,the higher the employee insurance required by local governments,the lower the autonomy of firms in employee compensation decisions.Many studies consider social insurance as a burden for firms precisely because social insurance mandated by local governments limit firms’ decision-making rights in employee compensation structure.China gradually implemented the Pilot Program nationwide over four years from2014 to 2017.This provides a special scenario for studying employee insurance.The implementation of the Pilot Program has multiple effects.First,national registration helps improve the compliance of firms with social insurance regulations.Second,one of the initiatives of the Pilot Program is the implementation of the social insurance transfer policy,which helps reduce the resistance to social insurance transfer when employees change regions for employment and promote cross-regional mobility.Third,adequate protection of employees’ rights and interests may reduce the income gap among employees and weaken their efforts.Part II is divided into three sections.In Section 1,the paper first examines the direct impact of the Pilot Program on firms’ social insurance.This study finds that firms’ social insurance rises significantly after the Pilot Program,which is more pronounced in firms with low social insurance compliance(firms with low pre-existing social insurance rates and non-state-owned firms)and firms with high labor intensity.This study further explores the impact of the Pilot Program on employees’ compensation structure.With rising social insurance triggered by the Pilot Program,firms are likely to control employee costs by reducing other employee compensation,and may also shift the burden to other stakeholders upstream and downstream in the supply chain.This study finds that the Pilot Program increases social insurance benefits per employee and decreases cash compensation per employee,leading to no significant effect on total compensation per employee.This suggests that firms affected by the Pilot Program control employee cost by adjusting their compensation structure.This provides the basis for the subsequent research in this study.In Section 2 of part II,this study examines the impact of the Pilot Program on employee innovation.The implementation of the Pilot Program can increase R&D staff outflow through two paths: reducing the incentive effect of employee compensation structure and increasing labor mobility,leading to a decline in firms’ R&D output.Meanwhile,the Pilot Program acts on R&D output by affecting capital investment.This study finds that patent output,especially invention patent output,declines after the Pilot Program.Cross-sectional tests show that the effect of the Pilot Program in reducing employee innovation is stronger for firms with low social insurance compliance,i.e.,non-state-owned firms.For firms with a higher share of human capital investment,the effect of the Pilot Program is stronger.For firms with stronger competitive position within the industry,the effect is weaker.Further study finds that the Pilot Program significantly decreases the quality of patent output.In Section 3 of part II,this study analyses the impact of enhanced employee insurance triggered by the Pilot Program on firms’ accounting disclosure.The Pilot Program reduces the costs borne by employees during unemployment,and thus decreases the firm’s incentives to manage earnings upward.Meanwhile,by promoting employee turnover and decreasing the firm’s operating flexibility,the Pilot Program increases incentives for earnings management.Empirical evidence shows that when the Pilot Program starts,firms headquartered in pilot regions reduce upward earnings management,proving that firms appear to manage earnings upward to manage employees’ perceptions of employment risks,and when employees are better insured against unemployment,upward earnings management decreases.This study contributes to the literature in several ways.First,while previous literature places great emphasis on managers as decision-makers,this study focuses on employees.By examining how employee insurance and incentives affect employees’ output and firm value creation,this study contributes to a deeper understanding of employees’ roles in the firm.Second,this study investigates how performance-based pay affects employees’ output and firms’ accounting disclosure.Although there has been extensive literature on pay-performance sensitivity,most of them lay focuses on managerial pay.The findings of this study add to the literature on employee incentives.Third,this study employs the Pilot Program as an exogenous shock to employee insurance and analyzes the effect of government-led employee insurance enhancements on employees’ output and firms’ accounting disclosure.The findings complement existing literature on employee insurance.This study has several practical implications.This study provides important insights into the design of employee insurance and incentives within the firm.By balancing employee insurance and employee incentives,firms encourage employee behavior that is beneficial to firm value creation and reduce potential conflicts of interest between employees and shareholders.In addition,by exploring the practical effects of employee insurance required by the local government,this study helps policymakers to better understand the extent to which the local government should influence firms’ employee insurance and incentives,and how to allow firms to fully utilize their proprietary knowledge in employee compensation design,thereby optimizing the efficiency of firm resource allocation.