ANSWER ANY 4 OF THE 6 QUESTIONS Question 1 A researcher is interested in how dif

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ANSWER ANY 4 OF THE 6 QUESTIONS Question 1 A researcher is interested in how different factors relating to firm performance impact on the salaries of Chief Executive Officers (CEO's) of the firm. Two alternative models are considered (MI) log(salary), = ! + .log(sales), + 3roe, + 4ros, + ui (M2) log(salary),=,+-log(sales), +,roe, ta,rosneg,+1, where variable definitions are given below together with variable means provided in salary= 1990 CEO salary, thousands $ [1,281] sales -annual firm sales in 1990, milions $ [6,924] roe average percent return on equity 1988-1990 [17.2] ros average percent return on stock 1988-1990 [61.8] rosneg = 1 if percent return on stock is negative and = 0 otherwise [0.11] brackets (i) Carefully outline your expectations about each of the parameters in both of these models including their expected signs. In particular, explain the differences between MI and M2 in terms of how the impact of return on stock on CEO salary is being modelled. Table 1 provides OLS estimates for both models using a sample of 209 US-based firms. Using the M1 results discuss the economic and statistical significance of the impact of ros on CEO salaries. On the basis of these results only, would you include ros in a model of CEO salaries? Explain you reasoning Now using the M2 results discuss the economic and statistical significance of the impact of ros on CEO salaries Briefly discuss and explain any substantive differences between M1 and M2 in terms of the inferences associated with all of the explanatory variables (ii) (iii) (iv) Table 1: OLS estimates of models CEO salaries Variable M1 4.32 (0.32) 0.280 (0.035) 0.0174 (0.0041) 0.00024 (0.00054) M2 4.30 (0.29) 0.288 (0.034) 0.0167 (0.0040) Intercevt log(sales) roe ros 0.226 0.109 rosneg Observations 209 209 0.283 0.297 Note: Numbers in brackets below coefficient estimates are standard eirors

Explanation / Answer

Answer to part (i)

In these models following are the expectations with respect to each of the variables:

As sales increases the Salary must also increase

As rate on equity increases the Salary must increas

As rate on stock increases the Salary must increase. This is directly reflected in the case of Mi model. In case of M2 model it must be that if rate on Stock is negative , there must be a decrease in salary but if rate of stock is positive , it may not lead to any increase in the salary

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Amswer to part ii)

IN M1 model

we got Coeffiient of ros as 0.00024 , which shows that with one unit increase in Rate of stock , the salary would be increased by 0.00034 times. this is a very negligle impact and that si the reason why it can be ingnored

We do not have to consider ROS as a influeing factor for salary in model 1

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Answer to part iii)

In m2 model , we get the coefficient of rosneg as -0.226

this implies with a unit change in the rate of stock , the salary moves in inverse direction by 0.226 times

thus this factor is relatively more influential and imapctful as compared to ROS in model 1

thus it is suggestive to keep ROS negative in the model

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Answer to part (iv)

If we compare both the models , we get to know:

1.Both the models are weak. They have a R2 that is very small

2. For M1 the coefficient of determination R2 is 0.283 , this implies it is able to explain only 28.3% of the variation in salary of CEOs

3. For M2 the coefficient of determination R2 is 0.297 , this implies that it is able to explain only 29.7% of the variation in salary of CEOs

4. Comparatively , model M2 is better than M2 since it has higher value of R2

5. The rate of Stock has been included in Model 2 in a better and more meaningful manner

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