An International Meeting of the American Accounting Association American Accounting Association 2006 Annual Meeting August 6–9, 2006 Washington, D.C.

Ana M. Albuquerque
Boston University

Abstract: This paper argues that the use of relative performance evaluation (RPE) as an incentive mechanism varies inversely with a firm's level of growth options: (i) for firms with high levels of growth options, peer performance is a less informative measure of external shocks outside of the CEO's control; and (ii) RPE implementation costs are higher for high growth options firms. The evidence supports these hypotheses. The tests control for factors known to affect pay for performance sensitivities such as idiosyncratic variance and firm-ß, firm size, and CEO tenure. The results are consistent using market-to-book value of assets, R&D expenses to assets, and a growth options factor obtained from principal component analysis as proxies for growth options and are robust to various alternative explanations.

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