The Effects of Foreign Directors on CEO and Director Compensation

ABSTRACT This study examines how the background of foreign directors (FDs) influences executive and director compensation. We find that civil law FDs are linked to increased CEO cash compensation while common law FDs are associated with higher equity‐based CEO pay, reflecting a stronger emphasis on shareholder alignment. These patterns are also evident when considering the economic freedoms and the cultural individualism of the directors’ country of origin. Specifically, boards with higher average institutional quality and individualism are linked to more equity‐based CEO compensation. In addition, FDs serving on compensation committees that originate from common law systems, economically free countries, and highly individualistic cultures are more likely to structure both CEO and director pay in ways that align with shareholder interests. Overall, our findings suggest that the institutional, legal, and cultural backgrounds of FDs play a key role in shaping CEO and director pay structures.