Performance Periods in CEO Performance-Based Equity Awards: Theory and Evidence

Posted: 9 Jun 2015 Last revised: 11 Oct 2017

See all articles by John Evans

John Evans

University of Pittsburgh - Katz Graduate School of Business

Zhan Gao

Lancaster University

Yuhchang Hwang

Arizona State University (ASU) - School of Accountancy; China Europe International Business School

Wan-Ting Wu

University of Massachusetts Boston

Date Written: June 10, 2017

Abstract

This paper examines the length of time over which CEO performance is evaluated (the “performance period”) in CEO performance-based equity awards (PBEAs). Departing from the primary emphasis of agency theory on moral hazard problems, we develop a model in which short performance periods are instrumental in sorting CEO talents. The model predicts that short performance periods are preferred when CEOs have low expected productivity or valuable alternative employment opportunities, and when firms face high operating uncertainty or high dispersion of managerial productivity. We find empirical support for these predictions in a sample of S&P 1500 industrial firms granting PBEAs to CEOs. We also document that CEO turnover is higher for underperforming CEOs with shorter performance periods, validating the sorting role of performance periods.

Keywords: performance period; sorting; performance vesting; CEO compensation; CEO turnover; corporate governance

Suggested Citation

Evans, John Harry and Gao, Zhan and Hwang, Yuhchang and Wu, Wan-Ting, Performance Periods in CEO Performance-Based Equity Awards: Theory and Evidence (June 10, 2017). The Accounting Review, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2615934 or http://dx.doi.org/10.2139/ssrn.2615934

John Harry Evans

University of Pittsburgh - Katz Graduate School of Business ( email )

230 Mervis Hall
Pittsburgh, PA 15260
United States

Zhan Gao (Contact Author)

Lancaster University ( email )

Lancaster LA1 4YX
United Kingdom
44-1524-593-151 (Phone)

Yuhchang Hwang

Arizona State University (ASU) - School of Accountancy ( email )

Tempe, AZ 85287
United States

China Europe International Business School ( email )

Shanghai-Hongfeng Road
Shanghai 201206
Shanghai 201206
China

Wan-Ting Wu

University of Massachusetts Boston ( email )

100 Morrissey Boulevard
Boston, MA 02125
United States

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