The Effect of Overconfident Managers on Excess Compensation

[Purpose]This study examines how managerial overconfidence influences managers’ excess compensation. In addition, we also examine how the effect of managerial overconfidence on excess compensation would vary depending on the effectiveness of corporate governance of firms. [Methodology]Using a sample of 13,932 firm－year observations listed in KOSPI and KOSDAQ from 2011 to 2020, we find the effect of overconfident managers on their excess compensation. [Findings]We find a positive and significant relationship between managerial overconfidence and excess compensation. This result is consistent with prior results of managerial overconfidence, that managerial overconfidence can cause a misaligned interest between shareholders and managers. The result also implies that overconfident managers are more likely to receive compensation that is not necessarily related to firm performance. Lastly, we find that the effect of managerial overconfidence on excess compensation is more pronounced when overconfident managers are in weak corporate governance firms than in strong corporate governance firms. [Implications]This study contributes to prior studies in the following ways. First, this study finds a relationship between managerial overconfidence and excess compensation. Second, it expands prior studies that are related to managerial overconfidence. Third, the results of this study suggest that levels of overconfidence of managers should be considered when managerial compensation contracts are made. Lastly, managerial characteristics and the effectiveness of corporate governance are important determinants of managerial compensation.