An Empirical Investigation of the Relative Performance Evaluation Hypothesis

Janakiraman, Surya N.; Lambert, Richard A.; LARCKERtt, David F.

doi:10.2307/2491091

“…The empirical implication is that the degree of RPE should increase in the extent of common risk (Janakiraman et al, 1992;Murphy, 1999;Prendergast, 1999). Thus, our first hypothesis:…”

Section: Economic Determinants Of Rpe Usementioning

confidence: 88%

Explicit Relative Performance Evaluation in Performance-Vested Equity Grants

Carter

¹

,

Ittner

²

,

Zechman

³

2008

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Using data from FTSE 350 firms, we examine factors influencing explicit relative performance evaluation (RPE) conditions in performance-vested equity grants. We provide exploratory evidence on whether the use or characteristics of RPE are associated with efforts to improve incentives by removing common risk, other economic factors discussed in the RPE literature, or external pressure to implement RPE. We find that many of these economic factors, including common risk reduction, are more closely related to specific relative performance conditions than to the firm-level decision to use RPE in some or all of their equity grants. We also find that greater external monitoring by institutional investors or others is associated with plans with tougher overall RPE conditions. The relative performance conditions are binding in most RPE plans, with nearly two-thirds of the grants vesting only partially or not vesting at all. Further, we find evidence that vesting percentages vary in RPE and non-RPE plans.Keywords restricted stock grant, equity plan, dividend playout ratio, stock option grant, compensation risk, RPE, equitybased pay, dividend yield, executive compensation contract, equity incentive, institutional investor, stock return volatility, London stock exchange, stock market performance, share price performance Abstract ______________________________________________________________________________ Using data from FTSE 350 firms, we examine the factors influencing the explicit use of relative performance evaluation (RPE) in performance-vested equity grants, and whether RPE is used to improve incentives or to opportunistically increase vesting and/or placate external parties calling for its use. We find little evidence that the simple decision to use or not use RPE is associated with the economic factors identified in RPE theories. Instead, these factors are associated with specific RPE performance conditions. The relative performance conditions are binding in most RPE plans, with nearly two-thirds of the grants vesting only partially or not vesting at all. However, we find no evidence that vesting percentages are higher in RPE plans than in non-RPE plans, and no evidence that RPE is used opportunistically to increase vesting and compensation.

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“…where b ¼ Covðe I ; e P Þ=s 2 I : It follows that the peer group component of firm performance is completely removed in the contract (Antle and Smith, 1986;Janakiraman et al, 1992;Aggrawal and Samwick, 1999b). To see this, note that b is just the slope coefficient from the regression P ¼ d þ bI þ u and u is the unsystematic component of P: Substituting this expression into the wage contract for P yields…”

Section: Relative Performance Evaluation (Rpe)mentioning

confidence: 99%

Financial Accounting Information and Corporate Governance

Bushman

¹

,

Smith

²

2002

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This paper reviews and proposes additional research concerning the role of publicly reported financial accounting information in the governance processes of corporations. We first discuss research on the use of financial accounting in managerial incentive plans and explore future research directions. We then propose that governance research be extended to explore more comprehensively the use of financial accounting information in additional corporate control mechanisms, and suggest opportunities for expanding such research. We also propose cross-country research to investigate more directly the effects of financial accounting information on economic performance through its role in governance and more generally. r 2001 Elsevier Science B.V. All rights reserved.

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“…We use two variables to proxy for common risk. Similar to Janakiraman et al (1992), our first variable uses coefficients from regressions of firm stock market returns on broad market or industry returns over the prior four years, and captures the extent to which the firm's returns experience similar shocks as those of their peers. We focus on stock returns due to the dominant use of shareholder returns as the performance target in UK RPE plans.…”

Section: Variables Capturing Economic Determinantsmentioning

confidence: 99%

Explicit relative performance evaluation in performance-vested equity grants

Carter

¹

,

Ittner

²

,

Zechman

³

2009

View full text Add to dashboard Cite

Using data from FTSE 350 firms, we examine factors influencing explicit relative performance evaluation (RPE) conditions in performance-vested equity grants. We provide exploratory evidence on whether the use or characteristics of RPE are associated with efforts to improve incentives by removing common risk, other economic factors discussed in the RPE literature, or external pressure to implement RPE. We find that many of these economic factors, including common risk reduction, are more closely related to specific relative performance conditions than to the firm-level decision to use RPE in some or all of their equity grants. We also find that greater external monitoring by institutional investors or others is associated with plans with tougher overall RPE conditions. The relative performance conditions are binding in most RPE plans, with nearly two-thirds of the grants vesting only partially or not vesting at all. Further, we find evidence that vesting percentages vary in RPE and non-RPE plans.Keywords restricted stock grant, equity plan, dividend playout ratio, stock option grant, compensation risk, RPE, equitybased pay, dividend yield, executive compensation contract, equity incentive, institutional investor, stock return volatility, London stock exchange, stock market performance, share price performance Abstract ______________________________________________________________________________ Using data from FTSE 350 firms, we examine the factors influencing the explicit use of relative performance evaluation (RPE) in performance-vested equity grants, and whether RPE is used to improve incentives or to opportunistically increase vesting and/or placate external parties calling for its use. We find little evidence that the simple decision to use or not use RPE is associated with the economic factors identified in RPE theories. Instead, these factors are associated with specific RPE performance conditions. The relative performance conditions are binding in most RPE plans, with nearly two-thirds of the grants vesting only partially or not vesting at all. However, we find no evidence that vesting percentages are higher in RPE plans than in non-RPE plans, and no evidence that RPE is used opportunistically to increase vesting and compensation.

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An Empirical Investigation of the Relative Performance Evaluation Hypothesis

Cited by 280 publications

References 16 publications

Explicit Relative Performance Evaluation in Performance-Vested Equity Grants

Explicit Relative Performance Evaluation in Performance-Vested Equity Grants

Financial Accounting Information and Corporate Governance

Explicit relative performance evaluation in performance-vested equity grants

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