SG&A cost stickiness and equity-based executive compensation: does empire building matter?

Cost stickiness is the asymmetrical behavior of costs depending on the direction of the sales change. In this paper we review and test two contradicting notions in prior literature: that of entirely “good” cost stickiness with the CEO acting in the interest of the firm and that of cost stickiness being to some extent “bad” with the CEO engaging in empire building. We test the behavior of SG&A costs in association with interest alignment by equity based payment of the firm’s executive and find that CEOs whose interests are better aligned with those of the shareholders make decisions that lead SG&A costs to exhibit significantly more asymmetry. Specifically, a CEO whose compensation is entirely composed of equity based payment and whose interests can thus be expected to be perfectly aligned with those of the shareholders will make decisions that lead SG&A costs per 1 % change in sales to be more sticky by 0.28 % percentage points. This is in line with the assumption of cost stickiness being “good” and rejects the empire building explanation. We conclude by discussing implications of the results and suggesting directions for further research.