CEO compensation in U.S. public firms has attracted a great deal of empirical work. Yet our understanding of the contractual terms that govern CEO compensation and especially how the compensation committee ties CEO compensation to performance is still incomplete.
The main reason is that CEO compensation contracts are, in general, not observable. For the most part, firms are not required to disclose the terms of their CEO incentive contracts, only the realized amounts that their CEOs receive at the end of any given year.
In December 2006, the Securities and Exchange Commission (SEC) issued new disclosure requirements on CEO compensation. These requirements came as a response to investor concerns that the heavy compensation packages to CEOs in recent years are not properly disclosed or well understood. According to these requirements, firms need to provide additional information about the contractual terms of their compensation to the CEO. In particular, firms need to disclose the types of performance measures that they use to determine CEO rewards, the performance targets and the performance horizon.
We use this newly available data to shed light on the use of performance measures in CEO compensation. We study two questions. First, we ask when firms would pre specify performance goals in their compensation contracts. Second, we study firms’ choice across the wide array of performance measures as well as performance horizon.
Our sample consists of S&P 500 firms in fiscal 2007. We collect information from the proxy statements on the performance measures that are used in the CEO compensation contract in fiscal year 2007. We focus on identifying the many different types of performance measures, their relative weights, and their performance horizon.
Across all U.S. firms, CEO compensation is given in the form of cash (e.g., bonuses and non-equity incentive plans), stock, and option awards. The SEC distinguishes between performance-based awards, which are given for meeting prespecified goals and other awards (i.e., time-vesting awards and bonuses), which, for the most part, are given at the discretion of the board. We observe that 90% of our sample firms grant some type of performance-based award and the average value of these awards is 4.8 million dollars. Moreover, on average, more than half of the value of CEO total awards is performance-based.
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PDF Ebook Measuring CEO Performance: Evidence from the new compensation disclosure rules
