The Role and Effect of Compensation Consultants on CEO Pay

We examine the effect of compensation consultants on CEO pay using a sample of 880 firms from the S&P 1500 for fiscal year 2006. The use of compensation consultants is controversial as critics contend their true role is to aid in securing excess compensation for CEOs. We find evidence of greater compensation in the presence of a compensation consultant, consistent with this rent extraction role. However, we find no evidence of less pay-performance sensitivity when compensation consultants are hired. Among firms that retain consultants, we also examine whether there is greater rent extraction for clients of consultants with potentially greater conflicts of interest. Using a variety of specifications, we are unable to find widespread evidence of more lucrative CEO pay packages for clients of conflicted consultants despite anecdotal evidence to the contrary. Overall, we conclude from our findings that the potential conflict of interest between the firm and consultant is not a primary driver of excessive CEO pay.