Control and Independent Variables

In addition to the independent and dependent variables we want to include control variables in our hypotheses. These control variables (moderators) are also independent variables, because we examine how they affect CEO compensation directly. We have already discussed how we believe the control variables affect the pay-for-performance relationship and how they

additionally can be independent variables and effect CEO compensation. In this subchapter, we will define the variables in detail.

4.3.3.1 Firm Size

Firm size is defined as how large a firm is, and can for instance be determined by indicators such as the number of employees, the sales and revenue, the financial or stock market value of a firm, or by the firms’ balances (Carrizosa, 2007; Thorsen, 2012). In rskl. §1-5 are all public limited firms seen as large firms, while small firms are considered as firms with less than 50 employees, less than 70 million NOK in sales, and less than 35 million NOK in their balance sheet, see rskl. §1-6. However, firm size can be determined differently, and how we identify

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how big a firm is will depend on how we measure firm size, and which kind of indicators we choose to include in our study. We will describe how we measure firm size later under the next chapter, and we will now continue to define the other variables.

4.3.3.2 Firm Risk

Risk in traditional terms is related to something negative, and can be defined as something that is exposing to danger or hazard. It is the possibility of loss or how much uncertainty a firm bears. There are many different types of risk, as business risk, social risk, economic risk, safety risk, investment risk, military risk and political risk. In our study, we are focusing on firm risk. The firm risk can be divided in two; market risk also called systematic risk and non-diversifiable risk, and firm-specific risk also called non-systematic risk or non-diversifiable risk.

Non-diversifiable risk is risk that cannot be diversified away by the firm, such as business cycle, interest rate, inflation and exchange rates. However, diversifiable risk is risk that is more related to the firm, and can be diversified away, this can be product innovation, management efficiency, research and development, and personnel changes. We will only examine the non-diversifiable risk, as this risk cannot be diversified away (Bodie et al., 2011).

4.3.3.3 Ownership Structure

As we have discussed before, the ownership structure of a firm has a large importance on firm decisions and corporate governance, and hence large importance on the pay-for-performance relationship and CEO compensation. We define ownership structure as the relative amounts of ownership or shares held by the insiders of the firm, such as managers, and outsiders of a firm, such as investors that have no direct role in the management of the firm (Jensen &

Meckling, 1976; Vroom & McCann, 2010). Jensen and Meckling (1976) use the term ownership structure instead of capital structure, and consider also the debt held by anyone outside the firm in addition to equity. Ownership structure is further defined as the

distribution of equity regarding votes and capital, but also as the identity of the equity owners and holders (Wahl, 2006). Hence, the ownership structure of a firm tells us who provides the firm with equity, in addition to what kind of identity and control the equity holders and owners have. We are focusing on the CEO’s ownership in the firm, which we will describe further when we operationalize our variables.

4.3.3.4 Age, Tenure, Gender and CEO Change

Age gives us the basic information of a human being, and is the length of time one person or a thing has existed. Further, the definition of tenure is how long a person has served in one position. In relation to our study, tenure is the number of years the CEO has served in the

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same position (Hill & Phan, 1991). Gender is simple and straightforward descriptions of some of the basic characteristics that differentiate between masculinity and femininity (Mikkola, 2011). These characteristics are typically referred to behavioral, social, and psychological characteristics of males and females (Pryzgoda & Chrisler, 2000). Lastly, CEO change is defined as a replacement or a change of the firm’s CEO in a current year.

4.3.3.5 Privately and Publicly Owned Firms

There are many definitions of privately and publicly owned firms, and in principle are privately owned firms considered as privately held firms that have shares that cannot be traded on a stock market, for instance on the Oslo Stock Exchange. Privately firms are instead owned and traded privately among a handful of people, often the founder and a few interested investors. On the other hand, publicly owned firms, also called publicly held or traded firms, are firms where there shares can be traded on public exchanges. A privately owned or held firm can also become a publicly held firm by offering its shares to the public (Reeves, 2004).

As we are focusing on firms listed on the Oslo Stock Exchange, is it hence logical to think that we only are focusing on publicly owned firms. However, as we mentioned in the

beginning are there many definitions of these two terms. We hence choose to define privately owned firms as firms listed on the Oslo Stock Exchange, but that are owned by private investors and shareholders, and we define publicly owned firms as firms listed on the Oslo Stock Exchange where the Norwegian State owns shares. Hence, both of these types of firms are publicly traded firms, but they differ from each other in that the government owns shares in one of them (Aftenposten, 2011). For instance, the government owns substantial ownership in firms listed on the Oslo Stock Exchange, and we consider this type of ownership as public ownership (Sørensen & Dalen, 2001). Hence, we include both privately owned and publicly owned firms in our study.

4.3.3.6 Board of Directors

The board of directors is defined as a group of individuals that are elected by the general meeting in order to make decisions on the shareholder’s behalf. The board of directors can hence be defined as representatives of a firm’s stockholders, where they have many different responsibilities. For instance, the board has to establish corporate governance policies and to make decisions of major firm issues. These issues include the hiring or firing of executives, dividend and options polities, in addition to executive compensation. According to asal. § 6-16a, the board shall prepare a statement of determination of compensation to the CEO and other senior executives. The statement must further include all types of CEO compensation

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such as fixed salary and other remuneration such as fringe benefits, bonuses, allocation of shares, warrants, options and other firms of compensation linked to shares or share price developments in the firm, pension schemes, severance pay arrangements, and all other firms of variable compensation elements, see asal. §6-16a.

Further, according to asal. §6-12 and §6-13 the board has the responsibilities of managing the firm and to ensure proper organization of the firm. Additionally, the board has to establish plans, budgets and guidelines for the firm’s operations, and has to make sure that the firm’s financial position, activities and accounts are subject of satisfactory control. The board shall also supervise the management, and issue instructions for the daily management, in order to make the management act in the best favor of the shareholders and other stockholders of the firm. As we also want to examine the gender balance in the board and its effect on the pay-for-performance relationship and CEO compensation, is it important to be aware that there are requirements for representation of both genders in the board, regulated by law in asal. § 6-11a. The requirements of the number of female directors in the board is however dependent of the board size. For instance, at least one of the board directors have to be females, when there two or three board directors. In boards where there are more than nine directors, each gender have to be represented by at least 40 %. We have now defined all of our variables in our research models and hypotheses, and in the next chapter will we present what kind of research method we will use in our study.

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