Performance Consequences of Group Versus Individual Compensation Schemes for Senior Executives

Abstract

This paper investigates the firm performance implications associated with the choice of individual versus group compensation schemes for senior executives below the CEO level. We define individual compensation schemes where senior executives are compensated independently from other senior executives, where incentive compensation is linked to individual performance. In contrast, group compensation schemes are defined where senior executive compensation is jointly determined with other senior executives, with compensation linked to common incentives. This paper is motivated by limited evidence on the firm performance implications of compensation scheme choice for senior executives', limiting critical evaluation of senior executives' compensation. Evidence using Australian data provides support that firms that choose compensation contracts for the senior executives that are not congruent with firm characteristics suffer lower subsequent accounting performance. However this lower performance is not significant for changes in market value of equity. The findings contribute to the ongoing debate surrounding the determination of appropriate corporate governance mechanisms in the presence of agency conflicts, and especially executive compensation schemes.

Keywords: Corporate Governance, Senior Executive Compensation and incentives, Firm performance, Agency Theory, Group and Individual Compensation

JEL Classification: G12, G30, G34, J33, J41, M41