Implementing Relative Performance Evaluation: The Role of Life Cycle Peers

55 Pages Posted: 16 Aug 2016 Last revised: 3 Aug 2019

See all articles by Katharine D. Drake

Katharine D. Drake

University of Arizona - Department of Accounting

Melissa Martin

University of Illinois at Chicago

Date Written: July 30, 2019

Abstract

The effectiveness of relative performance evaluation (RPE) in compensation contracts depends on a firm’s ability to identify peers that are subject to similar exogenous shocks with similar abilities to respond to such shocks. We expand the RPE literature by considering whether firms routinely select peers sharing a life cycle stage in RPE implementation. We argue that life cycle captures similarities in underlying economics and homogeneity along a number of dimensions relevant in filtering systematic performance. Using explicit peer firm disclosures and a peer selection model, we show that firms routinely select life cycle peers. Further, using implicit RPE tests, we document evidence of life cycle peers filtering common performance incremental to previously identified peer groups. We provide some of the first evidence that peer group composition differs with differing characteristics of the firm and its industry, highlighting that peer selection is a dynamic process evolving with the firm’s changing nature.

Keywords: Executive compensation; firm life cycle; relative performance evaluation; peer group

JEL Classification: E32, J33, L2

Suggested Citation

Drake, Katharine D. and Martin, Melissa, Implementing Relative Performance Evaluation: The Role of Life Cycle Peers (July 30, 2019). Available at SSRN: https://ssrn.com/abstract=2822388 or http://dx.doi.org/10.2139/ssrn.2822388

Katharine D. Drake

University of Arizona - Department of Accounting ( email )

Tucson, AZ 85721
United States

Melissa Martin (Contact Author)

University of Illinois at Chicago ( email )

1200 W Harrison St
Chicago, IL 60607
United States

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