 Incentive contracting in the shadow of litigation risk: Evidence from universal demand lawsMark Humphery-Jenner, Emdad Islam, Vikram Nanda and Lubna Rahman Journal of Banking & Finance, 2025, vol. 171, issue C Abstract: We hypothesize and show that the impact of a regulatory shock depends both on the shock itself and on how firms respond, which can itself depend on the firm's governance attributes. To explore this, we use the staggered passage of Universal Demand (UD) laws, which insulate managers from derivative lawsuits. We find that, on average, firms respond to UD laws by increasing risk-taking incentives (vega), thereby compensating for weaker external discipline, and incentivizing valuable risky investments. Corporate governance, institutional ownership, and CEO power influences the likelihood of adjusting compensation. The firms that do boost vega subsequently experience greater innovation, and a stronger market response to new product announcements. Our results help to reconcile extant findings on the effects of UD laws by showing that the beneficial impact of the laws is conditional on firms’ strengthening their CEOs’ risk-taking incentives, a choice affected by their latent governance arrangements. Keywords: Litigation risk; Universal demand laws; Compensation; Governance (search for similar items in EconPapers) Downloads: (external link) Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:171:y:2025:i:c:s0378426624002668 DOI: 10.1016/j.jbankfin.2024.107352 Access Statistics for this article Journal of Banking & Finance is currently edited by Ike Mathur More articles in Journal of Banking & Finance from Elsevier |
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