Using Sales Revenue as a Performance Measure

Abstract

This study provides the first systematic examination of the compensation contracting relevance of sales revenue. We document an increasing temporal trend in the explicit use of sales revenue as a performance measure in CEO annual bonus contracts, which is mirrored by a similar increase in the relative pay-sensitivity of revenues versus earnings over time. We also predict and find that sales revenue is more likely to be used as an explicit performance measure in annual bonus contracts when sales revenue is relatively more informative about firm value than accounting earnings and when firms follow a growth-focused organizational strategy. In addition, we find that the pay-sensitivity of revenue is significantly more positive for firms that explicitly reward revenue performance, as expected, but also that earnings pay-sensitivity is not significantly different from zero for these firms. This paper extends our current understanding of the selection of performance measures in compensation contract design and raises new questions about the validity of the traditional implicit tests in examining questions related to executive pay.

Keywords: Performance measures, executive compensation, sales revenue, pay-sensitivity

JEL Classification: M40, M41, M46, J33