Performance Incentives Within Firms: The Effect of Managerial Responsibility
AbstractEmpirical research on executive compensation has focused almost exclusively on the incentives provided to chief executive officers. However, firms are run by teams of managers, and a theory of the firm should also explain the distribution of incentives and responsibilities for other members of the top management team. An extension of the standard principal-agent model to allow for multiple signals of effort predicts that executives who have other, more precise signals of their effort than firm performance will have compensation that is less sensitive to the overall performance of the firm. We test this prediction in a comprehensive panel dataset of executives at large corporations by comparing executives with explicit divisional responsibilities to those with broad oversight authority over the firm and to CEOs. Controlling for executive fixed effects and the level of compensation, we find that CEOs have pay-performance incentives that are $5.85 per thousand dollar increase in shareholder wealth higher than the pay-performance incentives of executives with divisional responsibility. Executives with oversight authority have pay-performance incentives that are $1.26 per thousand higher than those of executives with divisional responsibility. The aggregate pay-performance sensitivity of the top management team is quite substantial, at $30.24 per thousand dollar increase in shareholder wealth for the median firm in our sample. Our work sheds light on the alignment of responsibility and incentives within firms and suggests that the principal-agent model provides an appropriate characterization of the internal organization of the firm.
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Bibliographic InfoPaper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 7334.
Date of creation: Sep 1999
Date of revision:
Publication status: published as Journal of Finance, Vol. 58, no. 4 (August 2003): 1613-1649
Note: CF LS
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Other versions of this item:
- Rajesh K. Aggarwal & Andrew A. Samwick, 2003. "Performance Incentives within Firms: The Effect of Managerial Responsibility," Journal of Finance, American Finance Association, vol. 58(4), pages 1613-1650, 08.
- G3 - Financial Economics - - Corporate Finance and Governance
- J3 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs
This paper has been announced in the following NEP Reports:
- NEP-ALL-1999-11-08 (All new papers)
- NEP-CFN-1999-11-08 (Corporate Finance)
- NEP-IND-1999-11-15 (Industrial Organization)
- NEP-LAB-1999-11-08 (Labour Economics)
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