Unintended consequences of outcome based compensation – How CEO bonuses, stocks and stock options affect their firms' patent litigation

• Published in: Research policy 2023-10, Vol.52 (8), p.104816, Article 104816
• Main Authors: Papageorgiadis, Nikolaos, Procopiou, Andreas, Sofka, Wolfgang
• Format: Article
• Language: English
• Subjects: Compensation; Patent enforcement; Patent litigation; Stock options
• ISSN: 0048-7333; 1873-7625
• DOI: 10.1016/j.respol.2023.104816

Enforcing a firm's patents is crucial for defending its competitive advantage. CEOs are central for making these strategic decisions but we know little about how their individual incentives shape their decision-making. We integrate theory from outcome-based CEO compensation designs into models explaining firms' decisions to become plaintiffs in patent litigation. Based on how compensation shapes time horizons and risk-taking of CEOs, we predict that CEO compensation tied to stock increases the firm's likelihood to enforce patents, while bonuses and stock options reduce it. Further, we reason that the tenacity of patent disputes in an industry creates a boundary condition for the effects of CEO compensation because they curtail the degree of agency that CEOs have for incorporating their personal incentives when making litigation decisions for the firm. We test these hypotheses for 2302 US firms with 4420 different CEOs and 3451 patent litigation cases between 1997 and 2015 and find support for all hypotheses with the exception of the boundary condition for stocks as CEO compensation. These findings advance existing theory on firms' decision-making on patent litigation by explicating how firm and CEO incentives can diverge with direct consequences for the likelihood of litigation to occur. •The patent litigation of firms is not merely a legal or organizational decision but substantially influenced by the individual incentives of their CEOs.•Firms are less likely to file for patent litigation when the compensation packages of their CEOs incentivize short-term results and risk-taking.•Bonuses and stock options as part of CEO compensation packages decrease their firms’ likelihood to become plaintiffs in patent litigation while compensation in stocks increases it.•The tenacity of patent disputes in a firm’s industry dampens the effects of bonuses and stock options in CEO compensation.