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Relative performance evaluation, pay-for-luck, and double-dipping in CEO compensation

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  • Carlos Jiménez-Angueira
  • Nathan Stuart

Abstract

We investigate whether chief executive officer (CEO) pay is linked to firm-specific and/or industry-wide performance only when it results in higher compensation. We argue CEOs have incentives to influence the ex post implementation of both relative performance evaluation (RPE) and pay-for-luck (PFL). Specifically, CEOs prefer RPE only when they outperform their reference group regardless of industry performance. Similarly, CEOs prefer PFL only when industry conditions are favorable. CEOs will try, ex post, to influence compensation committees to implement RPE and/or PFL only when implementation makes their compensation higher. Our results, based on both the level of compensation and the sensitivity of compensation to firm-specific and industry-wide performance, suggest CEOs are shielded from the worst performance outcomes, and rewarded through either RPE or PFL when one or the other leads to increased compensation. CEOs do not double-dip, however; compensation does not increase further when both RPE and PFL are in their favor. Our evidence shows that these compensation patterns are even stronger when firms have strong corporate governance mechanisms in place, consistent with optimal contracting between firms and CEOs and not with CEO manipulation of the pay process to expropriate wealth from the shareholders. Copyright Springer Science+Business Media New York 2015

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  • Carlos Jiménez-Angueira & Nathan Stuart, 2015. "Relative performance evaluation, pay-for-luck, and double-dipping in CEO compensation," Review of Quantitative Finance and Accounting, Springer, vol. 44(4), pages 701-732, May.
    • Handle: RePEc:kap:rqfnac:v:44:y:2015:i:4:p:701-732
    DOI: 10.1007/s11156-013-0423-3
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    More about this item

    Keywords

    CEO compensation; Relative performance evaluation; Pay-for-luck; Accounting performance; Efficient contracting; Corporate governance; D8; G3; J33;
    All these keywords.

    JEL classification:

    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • G3 - Financial Economics - - Corporate Finance and Governance
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods

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