Customer Relative Performance Evaluation

Abstract

We document evidence of customer relative performance evaluation ("customer RPE"), distinct from and incremental to, industry peer RPE documented in prior research as a mechanism for improving risk-sharing in CEO incentive contracts. We further examine the tradeoffs firms make when considering whether to include a specific customer as an RPE peer. We show that firms are more likely to choose as an RPE peer a customer that provides greater risk-sharing benefits. Additionally, firms are also more likely to use a customer with risk-sharing benefits as an RPEpeer when the benefits of aggressive bargaining against the customer are greater and the potential costs of losing a customer are smaller. Our study is the first to provide evidence of RPE filtering out factors unique to the firm’s downstream trading relationships, broadening the understanding of RPE, and helps explain the selection of RPE peers outside a firm’s industry.

Keywords: M10, M12, M40, M41, M52 executive compensation, relative performance evaluation, RPE, peer groups