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Please use this identifier to cite or link to this item:
http://hdl.handle.net/2451/27088
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| Title: | The Impact of the Likelihood of Turnover on Executive Compensation |
| Authors: | Hartzell, Jay C. |
| Keywords: | Compensation
Executive turnover
Agency problems
Optimal contracts |
| Issue Date: | Oct-1998 |
| Series/Report no.: | FIN-98-090 |
| Abstract: | This study analyzes the role of three incentive devices in managerial
compensation: pay for performance, termination, and career concerns. A
model is derived which shows that the three incentives are substitutes;
where the termination (or career concerns) incentive is low, the optimal
contract contains stronger pay-for-performance incentives. The empirical
implication, then, is that the pay-for-performance sensitivity of
managers should be decreasing (increasing) in the probability of
termination (retirement). To test the model’s predictions, I first
use a sample of CEOs to estimate the probabilities of forced and
voluntary turnover. Then, these estimated probabilities are compared to
the CEOs’ estimated pay-for-performance sensitivity. The evidence
is consistent with the hypothesis that boards consider the likelihood of
termination when setting the compensation contract; the relationship
between changes in CEO compensation and firm performance is decreasing
in the estimated probability of forced turnover. While CEOs nearing
retirement do not appear to have compensation that is increasingly
sensitive to performance, their wealth does have increased sensitivity.
Consistent with the model’s intuition, the sensitivity of total
CEO firm-related wealth to performance is positively related to the
probability of voluntary turnover. |
| URI: | http://hdl.handle.net/2451/27088 |
| Appears in Collections: | Finance Working Papers
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