Ceo Risk Taking Incentives And Relative Performance Evaluation
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| Author | : Dirk E. Black |
| Publisher | : |
| Total Pages | : 37 |
| Release | : 2018 |
| Genre | : |
| ISBN | : |
This paper examines how changes in CEO risk-taking incentives are associated with changes in the use of relative performance evaluation (RPE) in CEO contracts. Using a shock to the accounting for executive stock options (FAS 123R), I confirm that risk-taking incentives and option grants declined following FAS 123R using a within-firm design, but not a within-CEO-firm design. Decreased risk-taking incentives lead executives to invest in projects with lower systematic risk and can result in reduced incentives to hedge exposure to systematic risk in CEO compensation contracts via RPE. However, CEO relative risk-aversion increases with decreases in risk-taking incentives, potentially increasing incentives to protect CEO wealth from systematic performance via RPE. Testing these competing predictions, I find modest evidence consistent with reduced RPE surrounding FAS 123R, suggesting that when CEO risk-taking incentives are reduced, so are incentives to shield CEO pay from systematic performance.
| Author | : Hyungshin Park |
| Publisher | : |
| Total Pages | : 79 |
| Release | : 2015 |
| Genre | : |
| ISBN | : |
We offer evidence that the use of Relative Performance Evaluation (RPE) in CEOs' incentive contracts influences the effect of risk-taking incentives on both the magnitude and composition of firm risk. We find that when the incentive design lacks RPE features, the incentive portfolio vega motivates CEOs to increase total risk through the systematic component because it can be hedged. In contrast, when the incentive design includes RPE features, CEOs prefer idiosyncratic risk because RPE filters out the systematic component of firm performance. We also document that the use of RPE reinforces the incentive portfolio vega's effect on the total risk.
| Author | : Robert Gibbons |
| Publisher | : |
| Total Pages | : 60 |
| Release | : 1989 |
| Genre | : Chief executive officers |
| ISBN | : |
Measured individual performance often depends on random factors which also affect the performances of other workers in the same firm, industry, or market. In these cases, relative performance evaluation (RPE) can provide incentives while partially insulating workers from the common uncertainty. Basing pay on relative performance, however, generates incentives to sabotage the measured performance of co-workers, to collude with co-workers and shirk, and to apply for jobs with inept co-workers. RPE contracts also are less desirable when the output of co-workers is expensive to measure or in the presence of production externalities, as in the case of team production. The purpose of this paper is to review the benefits and costs of RPE and to test for the presence of RPE in one occupation where the benefits plausibly exceed the costs: chief executive officers (CEOs). In contrast to previous research, our empirical evidence strongly supports the RPE hypothesis-CEO pay revisions and retention probabilities are positively and significantly related to firm performance, but are negatively and significantly related to industry and market performance, ceteris paribus. Our results also suggest that CEO performance is more likely to be evaluated relative to aggregate market movements than relative to industry movements.
| Author | : Timothy Michael Keune |
| Publisher | : |
| Total Pages | : 178 |
| Release | : 2010 |
| Genre | : |
| ISBN | : |
| Author | : Konstantinos Tzioumis |
| Publisher | : |
| Total Pages | : 308 |
| Release | : 2005 |
| Genre | : |
| ISBN | : |
| Author | : Dimitris Vrettos |
| Publisher | : |
| Total Pages | : 113 |
| Release | : 2011 |
| Genre | : Accounting |
| ISBN | : 9781124598079 |
| Author | : Hsin-Hui Chiu |
| Publisher | : |
| Total Pages | : 49 |
| Release | : 2015 |
| Genre | : |
| ISBN | : |
If managers are risk-averse and compensation schemes are not directly linked to shareholder wealth, incentives to allocate effort to manage effects of relative and macroeconomic shocks may be distorted. In this paper we develop a simple model to identify factors that determine the optimal allocation of effort to manage relative and macroeconomic shocks. We then show how serial correlation in shocks, the relative variance of shocks and the ability of managers to influence the effects of shocks on shareholder wealth determine the optimal allocation of managerial effort. Thereafter, we emphasize how CEO compensation depends on performance variables distinguishing between relative and macroeconomic sources of changes in compensation. In our empirical analysis on the asymmetry of compensation in response to relative and macroeconomic shocks we use CEO's firm-related wealth in a sample of U.S. CEOs during 1993-2012. The empirical results show that macroeconomic fluctuations explain a large part of the variances of compensation and firm-related wealth. We find only weak evidence of asymmetric incentives in these two variables. Thus, if managers are risk-averse, their incentives to reduce the impact of macroeconomic fluctuations are strong and possibly excessive. We conclude that the role of macroeconomic fluctuations and the ability of the CEO to adjust operations in response to these fluctuations should be considered simultaneously when designing individual CEO compensation incentive schemes.
| Author | : Richard F. Vancil |
| Publisher | : Harvard Business Review Press |
| Total Pages | : 352 |
| Release | : 1987 |
| Genre | : Business & Economics |
| ISBN | : |
| Author | : Jakob Infuehr |
| Publisher | : |
| Total Pages | : 40 |
| Release | : 2018 |
| Genre | : |
| ISBN | : |
The conventional view suggests that firms should benchmark CEO compensation to absorb systemic risk and to more efficiently incentivize executives to work hard. Yet, empirical research has found only a modest use of benchmarking in compensation contracts. In this paper, I highlight one weakness of relative performance evaluation. When earnings management is possible, benchmarking creates stronger incentives for misreporting performance measures compared to competitor-independent pay. The optimal contract will depend less on a correlated benchmark if it is easier for the manager to misreport performance. This result may explain why benchmarking CEO compensation is not as widespread in the business world as previously predicted.
| Author | : Shane S. Dikolli |
| Publisher | : |
| Total Pages | : 43 |
| Release | : 2016 |
| Genre | : |
| ISBN | : |
We model relative performance evaluation (RPE) when a Chief Executive Officer (CEO) has the power to opportunistically influence the design of RPE by choosing the weight on an index-based peer group or by customizing the selection of peers comprising a peer group. A powerful CEO compares the benefits of reducing common risk affecting his compensation with the benefits of receiving a higher bonus by economizing on expected peer-group performance. The Board of Directors (BoD) is less likely to use RPE if a powerful CEO can influence RPE design. Our analytical model yields hypotheses predicting that powerful CEOs choose to reduce common risk only partially and that BoDs choose to not implement RPE if expected peer performance is sufficiently high. Our model has further empirical implications in (1) providing new interpretations of tests for detecting strong-form and weak-form RPE in the presence of powerful CEOs, and (2) suggesting a new empirical measure of CEO power with a focus on the delegation of RPE decision rights.
