Founding Family CEO Pay Incentives and Investment Policy: Evidence from a Structural Model

s We examine the relation between founding family and corporate investment policy through the incentives of CEO compensation in a structural framework. We focus on two pay sensitivities, delta and vega, which motivate managerial efforts and risk-taking behavior, respectively. We find that vega is lowest and delta is highest in active family firms despite no significant differences in both measures between passive and non family firms. Delta decreases while vega increases riskier R&D investments. Active family firms allocate less capital to R&D projects. Intriguingly, our subgroup analysis shows that delta and active family firms decrease R&D for high risk firms while vega increases R&D for low risk firms. Capital expenditures are not associated with incentive pay and founding family presence. We also find that vega increases both the number and the value of M&A activities, driven by high risk firms in which delta and active family firms reduce diversification. Overall, our results suggest that CEO pay incentives induce investment policy contingent on firm risk. In addition, despite the preference for low risk in active family firms, after replacing family CEOs with outside professionals, investments in risky R&D projects increase, consistent with the horizon hypothesis.