Strategy, Incentive Design and Performance: Empirical Evidence

Abstract

Firms pursuing different business strategies should align these strategies to incentive design. This study uses both archival and survey data on 110 stores of a Japanese high-end bakery chain to provide empirical evidence that misalignment between an organization's business strategy and incentive design (i.e., weights for financial and nonfinancial measures) adversely affects firm performance. Our results suggest that a decline in the firm's performance may be caused by managers' shifting their focus toward financial measures that are inconsistent with a customer-oriented strategy. Although the firm requires the exclusive usage of nonfinancial measures of performance in determining promotions, our results show that financial measures affect managers' promotions. As expected, the influence of financial measures in promotion decisions becomes more pronounced after the firm shifts to a primarily financial-focused bonus plan.

Keywords: business strategy, compensation scheme, financial measure, nonfinancial measure, promotion

JEL Classification: M41, M52