The dark side of inside debt: evidence from innovation

This study examines whether executive pensions and deferred compensation plans, collectively known as ‘inside debt’, influence innovation outputs that are considered critical drivers of firm growth. We find evidence that the association between inside debt and future growth outputs is negative by providing a decline in innovation performance. This result means that chief executive officers (CEOs) with larger inside debt would care more about the risk aspects of their firms. Thus, the firm may have to divert resources to pay off its debt obligations to its executives rather than invest in the innovative initiative. In particular, the negative relationship observed between inside debt and innovation is reduced or reversed in firms with CEOs with higher general management skills and longer decision horizons. Our finding is also robust to controlling for endogeneity concerns through a coarsened exact matching approach and a two-stage least squares (2SLS). In sum, the outcomes of this study contribute to the literature on CEO compensation schemes and corporate management and offer a more nuanced understanding of the role played by debt-like compensation in reducing risk-taking behaviours and decreasing future growth for firms, investors and regulators.