Incentive Compensation and the Likelihood of Termination: Theory and Evidence from Real Estate Organizations
51 Pages Posted: 19 Apr 2008 Last revised: 8 Feb 2010
Date Written: February 6, 2010
Abstract
We analyze two managerial compensation incentive devices: the threat of termination and pay for performance. We first develop a simple model predicting that these devices are substitutes: when termination incentives are low, optimal contracts provide stronger pay-for-performance incentives. We then use data from real estate organizations to provide two independent tests of the model's central prediction. First, we use the fact that CEOs of Real Estate Investment Trusts (REITs) and general partners of Real Estate Limited Partnerships (RELPs) perform similar tasks, yet organizational features of RELPs ensure that the latter are much harder to terminate. Consistent with the model, we find that pay-for-performance sensitivity is much higher for general partners of RELPs, where the termination threat is less credible. Second, we use a recent cross-section of REITs to show that in property types where it is expected to be more costly to replace managers, those managers have stronger pay-for-performance incentives.
Keywords: Executive Compensation, Agency Costs, Corporate Governance, REITs, RELPs
JEL Classification: G34
Suggested Citation: Suggested Citation
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