Financial Reporting Comparability and Accounting-Based Relative Performance Evaluation in the Design of CEO Cash Compensation Contracts

Jonathan Sangwook Nam

45 citations0/0 files storedThe Accounting Review

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Auditing, Earnings Management, Governance Corporate Finance and Governance Accounting and Organizational Management

Abstract

ABSTRACT This study examines how cross-firm differences in financial reporting practices affect how peer-firm accounting information is used to evaluate CEO performance. I propose that efficient relative evaluation using accounting performance requires peer firms to have comparable financial reporting systems, allowing boards to reduce the information processing costs associated with differences in firms' financial reporting practices. Supporting this view, when peer selection takes financial reporting comparability into account, I find evidence that the earnings of peer firms with high financial reporting comparability serve as a performance benchmark for determining CEOs' cash compensation. My paper empirically corroborates the substantial anecdotal evidence of the use of peer firms' accounting performance as a significant element in boards' evaluation of CEO performance. JEL Classifications: D8; G3; J33; M41.

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References

1973Risk, Return, and Equilibrium: Empirical Tests 1979Moral Hazard and Observability 2002The Quality of Accruals and Earnings: The Role of Accrual Estimation Errors 1990Performance Pay and Top-Management Incentives 1982Moral Hazard in Teams 1981Rank-Order Tournaments as Optimum Labor Contracts 1999Corporate governance, chief executive officer compensation, and firm performance 1992The investment opportunity set and corporate financing, dividend, and compensation policies

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