A company’s environmental impact often ripples out into how the rest of the world sees it, whether it’s an employee considering their next job, a consumer trying to make more sustainable decisions, or a potential investor considering risks and rewards. As Kogod professor of accounting Tharindra Ranasinghe put forward in his research, that impact can also hit a company close to home. “Carbon Emissions and CEO Pay,” Ranasinghe’s paper in the journal Accounting and Finance, studied the relationship between a company’s carbon emissions and how much it pays its CEOs. As it turns out, the relationship is a double-edged sword. 

Why look into the relationship between CEO pay and carbon emissions? 

Sustainability in business matters more now than ever to companies and consumers. In the United States, environmental protection and regulation at the federal level often depends on the administration in charge, but states and regions frequently take the lead on curbing greenhouse gas emissions in their own communities and companies. Data shows that consumers care about the sustainable practices behind what they buy, and investors have followed suit by showing a greater interest in environmentally responsible investing.  

The desire for sustainability means that many companies now see high carbon emissions as a risk. Consumers might pass over high-emission companies for greener alternatives, and investors hesitate to put their money into firms with a high carbon footprint. Even investors who are less interested in environmentally conscious investing take note that high carbon emissions open businesses up to legal issues from environmental and local groups, which makes investing even less desirable. The ripple effect of carbon emissions leading to risk, which hurts financial performance, which leads to less job security, brings much of the business world to the same conclusion—that carbon emissions are costly. 

This context led to the main question of Ranasinghe’s paper—if companies with high carbon emissions are viewed as risky, how does that reflect in the executive suite? Do CEOs who understand the risk of leading high-emission companies use that as a bargaining chip for higher pay, or are they punished for not bringing emissions down? As Ranasinghe says, “The CEO is very influential in shaping corporate policies and affecting corporate outcomes, including firms’ ESG policies and potentially carbon emissions. However, the CEO is also influenced by the firm they work for. Firm characteristics, including its various risk exposures, impact a potential CEO’s decision to work for a firm and how much pay they would demand in doing so. Therefore, it is likely that the CEO both impacts and is impacted by the firm’s carbon risk.” With that in mind, Ranasinghe, along with his co-authors Abu Amin and Ashrafee Hossain, set out to find the answer.  

The Study 

In order to determine the relationship between carbon emissions and CEO pay, Ranasinghe’s research team looked at a sample of large firms in the United States. Looking at data from 2010 to 2018, they compared each firm’s carbon emissions to their CEO’s salary while also taking note of each firm’s governance policies. Historically, CEOs of companies with weak governance systems have been able to use the lack of oversight to extract higher pay, so the research team was curious about the potential impact that governance would have on the data.  

Additionally, the team recognized the impact of Donald Trump’s election to the US presidency in 2016 as a potential shock to the data and their findings. Trump campaigned on and then followed through with more lenient environmental regulations for corporations, which could result in companies becoming less concerned with external consequences for their high carbon emissions. If that was the case, then the lower risk factor of leading a high-emissions company could be reflected in the CEO’s pay.  

As an empirical study, it was important for Ranasinghe and his co-authors to draw conclusions from existing data. “For our paper, we focused on large, publicly traded US corporations because carbon emission data is more reliable and readily available for these firms. However, this does not necessarily mean that the question we address is confined to this type of firm only,” Ranasinghe explained. 

What did they find? 

Through the study, Ranasinghe’s team found a positive relationship between carbon emissions and CEO pay—as one increases, so does the other. This relationship is even stronger in companies with strong corporate governance, as well as companies with corporate social responsibility (CSR) committees. This reflects the idea that CEOs of companies with high carbon emissions expect higher pay to balance out the risks of leading the company.