The Advantages of Using Earnings for Compensation: Matching Delivered Performance

31 Pages Posted: 31 Aug 2000

See all articles by Michael J. Barclay

Michael J. Barclay

University of Rochester - Simon School (Deceased)

Dhananjay (Dan) K. Gode

New York University (NYU) - Department of Accounting

S.P. Kothari

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Multiple version iconThere are 2 versions of this paper

Date Written: August 1, 2000

Abstract

We show that the greater the extent to which a performance measure matches delivered performance, the simpler and more robust are the compensation plans based on it. In some settings stock price changes match delivered performance poorly because they anticipate it. This introduces three problems with price-based plans relative to an earnings-based plan. First, the price-based plans become complex because they require knowing the extent to which prices anticipate the future. Second, price-based plans are less robust to unforeseen events. Third, price-based plans require period-by-period changes in pay-for-performance relationship even when the underlying production function remains unchanged. Earnings-based plans are used in these settings if earnings better match delivered performance.

JEL Classification: J33, M41

Suggested Citation

Barclay, Michael J. and Gode, Dhananjay (Dan) K. and Kothari, S.P., The Advantages of Using Earnings for Compensation: Matching Delivered Performance (August 1, 2000). Available at SSRN: https://ssrn.com/abstract=238075 or http://dx.doi.org/10.2139/ssrn.238075

Michael J. Barclay

University of Rochester - Simon School (Deceased)

N/A

Dhananjay (Dan) K. Gode (Contact Author)

New York University (NYU) - Department of Accounting ( email )

40 West 4th Street
Suite 10-180
New York, NY 10012
United States
212-998-0021 (Phone)
212-995-4004 (Fax)

S.P. Kothari

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

E52-325
Cambridge, MA 02142
United States
617-253-0994 (Phone)
617-253-0603 (Fax)

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