The Role of Peer Firm Selection in Explicit Relative Performance Awards
57 Pages Posted: 2 Sep 2016 Last revised: 11 Mar 2021
Date Written: January 1, 2020
Explicit relative performance awards (RPE) are an important component of executive compensation. Using the contractual features of RPE awards, we calculate both their value and incentive properties. We find that, consistent with theory, RPE awards that use a custom peer group are structured, both in terms of peer selection and payout design, to filter out common shocks. We find some evidence that firms select a broad market index over a custom peer group in order to increase award value at the expense of award efficiency. Overall, our evidence suggests there is considerable heterogeneity in the effectiveness of RPE design.
Keywords: executive compensation, peer firm selection, relative performance awards, corporate governance
JEL Classification: M52, M55, J31, J33, G13, G17, G32, M12
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