Academic journal article Washington and Lee Law Review

An Empirical Analysis of CEO Employment Contracts: What Do Top Executives Bargain For?

Academic journal article Washington and Lee Law Review

An Empirical Analysis of CEO Employment Contracts: What Do Top Executives Bargain For?

Article excerpt

I. Introduction

What do chief executive officers (CEOs) bargain for in their employment contracts? If you read the labor law literature, you might think that these executives did not have contracts. Prominent legal academics have claimed that CEOs are at-will employees, just like rank-and-file workers.1 If instead you read the corporate law literature, you might think that CEOs get whatever they want in their contracts. Leading legal academics have argued that corporate boards are all too willing to give CEOs fat pay packages and generous severance agreements because the directors are in the CEOs' back pockets.2

For all of the ink that has been spilled about CEO contracting processes and outcomes, however, no one has studied the contracts themselves. At the most basic level, do executives have contracts? If so, what are their common legal terms? Are they different from the employment arrangements of other corporate employees? Do these contracts reflect strong CEOs dictating to trembling directors whatever terms they want? Or are these agreements negotiated documents exhibiting provisions that serve both parties' interests well?

To answer these questions, we examined the key legal characteristics of 375 employment contracts between some of the largest 1500 public corporations and their chief executive officers. We looked at the actual language of these contracts and asked whether and in what ways CEO contracts differ from standard employment contracts for other workers. Our data provide some empirical answers to several common assertions or speculations in the labor law literature about CEO contracts and shed light on corporate law questions about whether these contracts are negotiated solely to suit the preferences of CEOs or have provisions that also safeguard the employers' interests.

We begin by giving an overview of the general characteristics of a CEO employment contract and the process by which one is negotiated. This discussion shows that while some terms of these agreements are boilerplate language, there are intense negotiations over other terms. This background helps put into context the empirical information gleaned from the contracts.

Turning then to the contracts and the labor law issues surrounding them, we ask whether CEOs' employment contracts leave them as nothing more than glorified at-will employees. We focus on five contracting issues: (1) the term "just cause" that defines when an executive can be terminated involuntarily with penalties; (2) the "good reason" termination clauses in the contract that permit an executive to leave voluntarily without financial penalties; (3) the noncompetition clauses in the contract; (4) the use of arbitration clauses to resolve contractual disputes; and (5) the contractual restrictions, if any, on the CEO's selling stock options. We also discuss some of the lesser-known economic terms of these contracts, including their length and the level of perquisites given to CEOs.

We find much evidence that CEOs are not generally at-will employees. First, with respect to termination provisions, we find that CEOs overwhelmingly contract around the at-will default standard of termination. Of 375 contracts in our sample, only twenty-five expressly declare the contract to be at-will. Thirteen contracts are in essence at-will as they give the CEO the same rights if dismissed with or without cause. Most of the remaining contracts (340) give the CEO greater rights if dismissed without cause. Even the expressly declared at-will contracts tend not to be so. Of those twenty-five contracts, twenty-four give the CEO greater rights for termination without cause. Furthermore, 86.93% of the contracts are for a definite term of years. This is quite different from the protections available to other workers, who are generally at-will employees without contracts.

Examining the definition of "just cause" for terminating a CEO, we find that the most commonly listed reasons are willful misconduct, moral turpitude, failure to perform duties, breach of fiduciary duties, and gross misconduct. …

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