Is executive compensation aligned with the company’s ESG objectives? Evidence from Chinese listed companies based on the PSM-DID approach

Abstract

Abstract Fundamental principles of agency theory and incentive mechanisms suggest that executive compensation should align with a company’s developmental goals. This paper aims to explore whether the executive compensation of listed companies in the Chinese capital market aligns with their ESG (Environmental, Social, and Governance) practices, and the underlying mechanisms of this influence. For the first time, this study integrates ESG practices with executive compensation, creating a novel analytical framework and filling a gap in the existing literature. Employing empirical research methods such as the PSM-DID (Propensity Score Matching – Difference-in-differences) model, fixed effects model, heterogeneity analysis, and tests for mediating effects, the study concludes that ESG practices of Chinese listed companies significantly increase executive compensation, demonstrating consistency between the two. Additionally, the beneficial impact of ESG practices on executive compensation incentives is more pronounced in state-owned enterprises compared to non-state-owned ones. Financial performance, company reputation, and investor relations partially mediate the relationship between a company’s ESG practices and executive compensation. Specifically, financial performance acts as a negative mediator, while company reputation and investor relations serve as positive mediators. Initially, participation in ESG practices tends to exacerbate ‘income inequality’ between executives and other employees. However, as companies continue to enhance their ESG practice levels, this ‘income inequality’ gradually diminishes. Finally, the paper offers several suggestions: Firstly, Chinese listed companies can attract and retain top executive talents by strengthening ESG practices. Although initial ESG practices may lead to pay imbalances, long-term involvement will help reduce this disparity. Secondly, investors can conduct a more comprehensive assessment of a company’s future performance, governance structure, and corporate social responsibility by analyzing how ESG practices are reflected in executive compensation. Lastly, the paper provides valuable insights for policymakers, suggesting that regulators should develop more targeted policies and guidelines based on the relationship between a company’s ESG practices and executive compensation.