CEOS' Outside Employment Opportunities and the Lack of Relative Performance Evaluation in Compensation Contracts
Posted: 9 Jun 2005
Although agency theory suggests that firms ought to index executive compensation to remove market-wide effects (i.e., RPE), there is little evidence to support this theory. Oyer (2004) posits that absence of RPE is optimal if the CEO's reservation wages from outside employment opportunities rise and fall with the economy's fortunes. We directly test and find support for Oyer's (2004) theory. We argue that the CEO's outside opportunities depend on his talent proxied by the CEO's financial press visibility and his firm's recent industry-adjusted ROA. Our results are robust to alternate explanations such as managerial skimming, oligopoly and asymmetric benchmarking.
Keywords: Compensation, Relative Performance Evaluation, talent
JEL Classification: M41, J33
Suggested Citation: Suggested Citation