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Performance-Based Compensation and Firm Value: Experimental evidence


  • Glenn Pfeiffer

    () (Argyros School of Business and Economics, Chapman University, USA)

  • Timothy Shields

    (Argyros School of Business and Economics, Chapman University, USA)


Motivated by research reporting positive price reactions to adoption of performance-based compensation plans, we examine price reactions to compensation contracting in experimental markets. The design allows us to manipulate variables separately and study issues of adverse selection (sorting) and moral hazard (incentives). We find that managers select contracts based on their private information, and that information is conveyed to the market by the choice of compensation contract and reflected in price. Additionally, we find that managers do not always exert costly effort in spite of favorable incentives to do so (shirking). As a result, the market is skeptical of incentive benefits. Thus, while we find evidence of overbidding in some treatments, we find that market prices are consistent with private information revelation but undervalue incentive benefits.

Suggested Citation

  • Glenn Pfeiffer & Timothy Shields, 2012. "Performance-Based Compensation and Firm Value: Experimental evidence," Working Papers 12-17, Chapman University, Economic Science Institute.
  • Handle: RePEc:chu:wpaper:12-17

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    References listed on IDEAS

    1. Oyer, Paul & Schaefer, Scott, 2005. "Why do some firms give stock options to all employees?: An empirical examination of alternative theories," Journal of Financial Economics, Elsevier, vol. 76(1), pages 99-133, April.
    2. Yakov Amihud & Baruch Lev, 1981. "Risk Reduction as a Managerial Motive for Conglomerate Mergers," Bell Journal of Economics, The RAND Corporation, vol. 12(2), pages 605-617, Autumn.
    3. Warner, Jerold B., 1985. "Stock market reaction to management incentive plan adoption : An overview," Journal of Accounting and Economics, Elsevier, vol. 7(1-3), pages 145-149, April.
    4. Brickley, James A. & Bhagat, Sanjai & Lease, Ronald C., 1985. "The impact of long-range managerial compensation plans on shareholder wealth," Journal of Accounting and Economics, Elsevier, vol. 7(1-3), pages 115-129, April.
    5. Tehranian, Hassan & Waegelein, James F., 1985. "Market reaction to short-term executive compensation plan adoption," Journal of Accounting and Economics, Elsevier, vol. 7(1-3), pages 131-144, April.
    6. Core, John E. & Guay, Wayne R., 2001. "Stock option plans for non-executive employees," Journal of Financial Economics, Elsevier, vol. 61(2), pages 253-287, August.
    7. Scholes, Myron S, 1991. " Stock and Compensation," Journal of Finance, American Finance Association, vol. 46(3), pages 803-823, July.
    8. Clifford W. Smith Jr. & Ross L. Watts, 1982. "Incentive and Tax Effects of Executive Compensation Plans," Australian Journal of Management, Australian School of Business, vol. 7(2), pages 139-157, December.
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    More about this item


    compensation; experimental markets; sorting; incentives;

    JEL classification:

    • C92 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Group Behavior
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

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